Romania's fledgling private pensions system was launched just as the scale of the global financial crisis became clear. Chris Panteli finds out how it has delivered under some of the tightest investment regulations in Europe
The dawning of the global financial crisis alongside the launch of Romania’s private pension system has shaped its investment strategy considerably. The mandatory second pillar, which presently has just under €1bn ($1.3bn) in assets under management, is under extremely tight regulation by Romania’s Private Pension System Supervisory Commission (CSSPP) and has one of the most conservative asset mixes in Europe.
Among the many limits imposed on the management companies running the funds are a 50% cap on listed shares on stock markets in Romania, EU or EEA states, with sub-limits of 35% for Romanian shares, 35% for EU or EEA states; no more than 30% in corporate bonds issued by Romanian, EU or EEA companies; up to 5% in mutual (investment) funds in Romania or other countries; and just 2% in private equity (not including private equity funds).
The strict guidelines turned out to be a saving grace as the funds posted some of the best returns in Europe. Figures released by the Romanian Pension Fund Association (APAPR) earlier this year show the second pillar system returned 17.7% in 2009, while the voluntary system boasted returns of 15.9% on the back of strong fixed income rebounds.
Last year a 70% cap on Romanian government bonds was lifted as the country’s economic plight worsened and funds were allowed to invest 100% in the asset class if they wished to.
“There are limits on how they can invest but it was temporarily removed and they can now invest up to 100% government bonds as a temporary measure,” said APAPR secretary general Mihai Bobocea. “They did not take this opportunity to put the cap back in place because the limit was already very high.”
As of June 2010, Pillar II funds remained close to the initial ceiling on national debt, with a 65.29% allocation to the asset class. They also had a 14.27% exposure to corporate bonds, 9.9% in shares and 7.25% in bank deposits, with smaller allocations to mutual funds and municipal bonds (see chart on page 19).
Marius Iancu, a consultant with Aon Consulting, which administers one of the third pillar funds, agreed the strict rules had worked in their favour.
“We were lucky with the returns last year, we did well because we were forced to play safe and did not have the capacity to access equities and so on. The state was forced to borrow money, the returns from sovereign debt were very high and so they got a very good return.”
The protracted launch of the private system due to continued government procrastination, also ultimately worked in its favour. “There were good things to come from delaying the private reform,” CSSPP public affairs manager Dan Zavoianu accepts.
“The administrators managed to avoid the crisis and were then able to buy at a low price in good market conditions, even though they invested mostly in government bonds.”
The mandatory pension funds provide two strong guarantees to protect peoples’ savings: at least a 0% return over the whole accumulation period, and a market relative guarantee, which is calculated and benchmarked on a quarterly basis in relation to the market’s average performance. Failure to meet these guarantees can result in major action being taken against the fund manager.
“A fund cannot perform badly compared with the average,” said Zavoianu. “If it does so over a year, we intervene – first with special supervision then the fund manager loses his authorisation and the participants go into special administration. They have to follow this guarantee relative to performance.”
However, Iancu said this can have unforeseen consequences on the way the funds are run.
“The system is not designed to make the most of investment opportunities,” he said.
“In my opinion, each and every pension fund will copy the investment of others so they can closely match the returns of their competitors. Their main differentiator in terms of getting people signed up is brand name.”
Investment strategies are strikingly similar in the second pillar too. At present, every fund member is treated the same regardless of their age. Lifestyling does not exist and a 45-year-old will have the same risk profile as a 21-year-old. This is set to change, said Zavoianu, but not soon.
He added: “We don’t yet have a multi-funds system but it is the way we are going. We will introduce a system which would allow a younger person to enter a fund with a higher risk and as they go on with life they will be shifted to medium and then lower risk.
“For now however, the risk in our funds is very low. Compared to other kinds of investment funds what is known as high risk in Romanian private pensions is what is defined as medium risk in other types of funds.”
Bobocea agrees. “The idea is that we have something similar to what they have in Slovakia or Hungary. Three funds, you are automatically enrolled into one of the funds depending on your age and you would be moved from one risk profile to another as you get older.”
However, he admitted there are several challenges that need to be faced before the system can progress. As it stands the current system has yet to recoup its costs meaning it will prove difficult to extend investment choice.
“You have to remember that the launch of the private pension system was accompanied by a huge and very expensive marketing campaign. The providers spent close to €500m on advertising and marketing costs and agents to sign people up.”
The administrators must now recover those costs, which, given the low 2.5% contribution rate from which they take their fees and the low take-up rate, is expected to take another 10 years.
“The fees are capped by law, so the second pillar providers have a 10 year benchmark horizon now,” said Bobocea. “They start actually making money some time around 2020 and things such as lifestyling or anything else would mean significant costs.
That is why the appetite for change is very low.
“We know it needs to be done and mentally we are prepared to make those changes, but with costs being high and contributions being low it is tough. The fund administrators didn’t act for diversification in the portfolio because being in the initial stages there were not enough assets and there was also the crisis.”
Iancu agrees: “So far we have 180,000 employees, and bearing in mind we have something like five million active workers here, it is not such a big impact. Now, due to the economic situation the cost cutting is affecting benefits in general.
“The employers are aware there is this pension system but they are waiting for things to improve. There was an optimistic approach by the providers at the start, but now they are facing tough times. The point where they anticipate breaking even is moving further and further away.
“The system is also very tight on fees and taxes. It may be one of the best pension systems from a safety point of view, but it makes it less attractive for pension providers.”
There are other reasons why more sophisticated options have yet to be implemented, says the APAPR, which is keen to get the basics of the system fixed before adding to the system further.
“We have just escaped an attempt by the government to cut contributions from 2.5% to 0.5%. The entire process will move slowly because there is resistance on all sides, said Bobocea. (See full story on pages 16-17)
“The mechanics don’t quite work for us yet, and with awareness and education being at very low levels, if we’d had equity funds investing 50% in equities for young people, they would have shown -25% returns in 2008/09 and it would not have been properly received. They would have said, ‘you’re losing our money’. It’s very complicated here.”
Despite launching with a stripped down proposition, both the industry associations and fund administrators have big plans for Romania’s fledgling private system. And, as is generally the case when it comes to pensions, they are in it for the long-haul. Investments have also started well, both by design and good timing, but whether the country’s strictly conservative strategy will become too restrictive in rising markets remains to be seen.
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