Voluntary Pension System
(VPS)
A critique on the Investment Policy
Najam Ali
CEO ABAMCO Limited
Presentation Overview
 VPS Structure
Sub-Funds
 VPS Asset Allocation
 Investment Process
 Critique on Asset Allocation Requirements
 Investor Goals and Constraints
 International Comparison
 Prudent Person Rule versus New Prudent Investor Rule
 Qualitative versus Quantitative Diversification
 VPS Investment Limits
 Critique on regulations
 VPS – A long way to go

VPS – The Structure
 The Voluntary Pension System – a self-contributory pensions
savings scheme
 No restriction on the employer to join in and contribute to its
employees pension
 Max contribution limit of PkR 500,000 p.a. by any individual
 Relaxation for participants joining the pension plan after the age
of 41
 Allowed an additional contribution of 2% p.a.
 Total contribution must not exceed 50% of the individual’s
total taxable income
VPS – Sub-Funds
 VPS – a scheme with three sub-funds:
Equity Sub-Fund
 Debt Sub-Fund
 Money-market Sub-Fund
 Additional classes such as real estate and international
investments may be added later
 Asset allocation as per participant’s return objectives and levels
of risk aversion

VPS – The Pooled Fund
Equity Sub-Fund
Debt Sub-Fund
Money-Market Sub-Fund
VPS – Asset Allocation
 Pension fund managers (PFMs) to invest with:
Transparency
 Efficacy
 Prudence
 Soundness
 PFMs to offer at least 4 pre-set asset allocation schemes:

Allocation
Scheme
Debt
Sub-Fund
Equity
Sub-Fund
Money Market
Sub-Fund
Aggressive
20%-35%
65%-80%
Nil
Balanced
40%-55%
35%-50%
10%-25%
Conservative
60%-75%
10%-25%
15%-30%
Very Conservative
40%-60%
Nil
40%-60%
VPS – Investment Process of an IPA
Part 1: Formation of an Investment Policy
Participant chooses asset allocation
scheme, e.g. Aggressive
Yes
PFM chooses percentage of
contributions to go in each sub-fund,
e.g. Equity: 80%, Debt: 20%, MM: 0%
REGULATION:
Percentages not to
change more than
once in a given
calendar year
No
PFM assigns investor
to Conservative or
Very Conservative
scheme
VPS – Investment Process of an IPA
Part 2: Monthly Fund Flow
PkR 8,000
Equity
PkR 10,000
Investor
PkR 2,000
PMF
Trustee
Debt
PkR 0
MM
VPS – Critique on Asset Allocation
 Potential inefficiencies due to overly structured asset allocation:
Structured asset allocation schemes may not be applicable
to all investors
 An individual’s position in a defined asset allocation scheme
may hamper his/her investments from growing at competitive
and efficient rates
 Limitation of only one change per year in the percentage of
contribution to each sub-fund is too restrictive as investor
preferences, abilities and characteristics are dynamic – so
should the asset allocation
 Recommendations:
 The limit on rebalancing and switching between investment
classes should be increased to twice a year
 Rather than defined allocation schemes, each IPA’s
investment policy should be in accordance with the
participant’s characteristics
 Investors should have the flexibility to invest any fraction in a
particular class for example 100% in equities

VPS – Critique on Asset Allocation
 Recommendations (cont.):
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Investments should be made on principles of diversification,
maximizing returns to participants and limiting risk
Investor’s objectives and constraints should be evaluated
before formulating the investment policy (unlike predetermined
allocation)
Product differentiation should be encouraged; else
 All PFMs follow similar investment objectives
 Higher marketing and administrative costs
Investment managers should be given more autonomy and
flexibility to evaluate an investor’s risk level and use their
prudent judgment in devising the optimal investment policy
VPS – Investor Goals & Constraints
 A common global practice: To evaluate investor goals and
constraints before formulating an investment policy – a law in UK
 Appraisal forms to judge the willingness and ability of the
investor to take risk
 Rule of thumb: Go by the willingness to take risk, unless the
ability is less than the willingness
 Asset Managers (are sometimes required by law) to only offer
those investment opportunities to the investor, which are in
line with their risk aversion level
 Fallbacks in the VPS Rules:
 No requirement to evaluate investor objectives
 Allows investors to make decision and choose scheme
 Or if no decision by investor – assign to Conservative or Very
Conservative scheme – possibly inefficient
 May not maximize investor’s utility
VPS – Investor Goals & Constraints
 Recommendations:
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The investment policy (IP) should not be pre-formulated
Choosing a scheme on an ad-hoc basis should not be
completely in hands of the investor
In line with international standards, the IP should be
determined after thorough analysis of the investor’s attributes
Level of risk aversion must be determined by asset manager
before offering an allocation style
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An institutionalized criteria of assessing investors’ level of
risk aversion, such as that in Canada, should be introduced
PFMs should require investor’s to fill and sign risk
assessment forms in order to determine the level of risk
Specialized software may be used for this purpose
PFM must clearly explain the risk/return characteristics of a
plan to the investor
VPS – International Comparison
 The Prudent Person Rule

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Governs the actions of the asset managers in developed nations such as
US, EU, Canada, Finland and Japan, along with many developing countries
Charges fiduciaries with conducting themselves with the same degree of
judgment, reasonableness and prudence in administering the affairs of their
clients, as they would in their own personal affairs
 The New Prudent Investor Rule
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Replacing the old rule due to certain unnecessary limitations
When dealing in their clients’ affairs, the new rule calls on asset managers
to “observe how men of prudence, discretion and intelligence manage their
own affairs, not in regard to speculation, but in regard to the permanent
disposition of their funds, considering the probable income, as well as the
probable safety of the capital to be invested"
Calls for diversification, capital growth and safety, and implementation of
investment decisions in the context of the whole portfolio
 Such rules should also govern the actions of investment managers in
Pakistan in order to gear the investment process to the benefit of the
participants
VPS – International Comparison
 Two investment regulation approaches
Qualitative
 Quantitative
 Qualitative
 A prudent approach urging diversification
 No defined investment limits
 Followed in US, UK, Netherlands and Australia
 Quantitative
 Another prudent approach geared toward diversification
 Provides clear cut limits on asset allocation and investment
avenues
 Followed in EU, Canada, India, Philippines and now in
Pakistan

VPS – Qualitative Approach
 Features:
 Diversification requirement is stated as general principle
 UK explicitly requires fiduciaries to develop a statement of
investment policy to guide decisions
 US requires no explicit point in this rule
 Perspective in Pakistan
 Market too regulated to have qualitative approach
 Qualitative approach suits free markets
Too many groups in small market constraints the ideal free
market
In essence, Qualitative approach is not appropriate for Pakistan

VPS – Quantitative Approach
 Main Feature:
Imposes quantitative limits related to diversification
 Examples
 Canada
5% in Real Estate Investment of funds portfolio
30% in foreign investment of funds portfolio
 Italy
15% in single investment of funds portfolio
 EU
30% cap on investments in unregulated markets
5% cap on investment in a particular scrip
10% cap on investment in scrips issued by a
particular group
 Philippines 25% cap on investments in equities
25% cap on investments in real estate
10% of maximum allowable investment in a
single asset

VPS – Investment Limits
 Equity Sub-Fund
5% cap on investment in shares of a company, 20% in a sector
 1% cap on investment in any one green field company
 Total investment in green fields not more than 5% of NAV
 Investment in shares of only those listed companies that have an
operational history of 5 years
 Proposed amendments:
 Green field projects must be clearly defined. Is a green field
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An IPO, or
A newly established venture?
Restriction of investment in issues of companies with less than 5
years of operational history hampers prospects to reap gains
from certain excellent growth opportunities
Some restrictions should be imposed to ensure liquidity of funds
e.g. India’s proposal of PFs only investing in index shares
VPS – Investment Limits
 Debt Sub Fund
Debt sub fund consist of tradable securities with weighted
average duration of less than 10 years
 At least 50% of the assets will be invested in federal
government securities
 Proposed amendments to overly restrictive regulations
 Duration term should not be restricted as investors with long
term investment horizon (purpose of pension investment) will
not be able to gain from high yield long term investments
 Minimum 50% investment in government securities would
mean high credit quality but low returns
 Such restrictions carry no international significance
especially in Pakistan’s emerging corporate bond market

VPS – Investment Limits
 Money Market Sub Fund
Weighted average duration of the fund should not exceed
one year
 No restriction on investment in government securities
 All other securities capped at 20%
 Close to retirement a participant would be most heavily invested
in the money market considering its safe and short term nature

VPS – A long way to go
 The VPS is yet in its infancy. Nevertheless, it is a much needed
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product and is the call of the time
As individuals become more and more independent and living
standards increase, saving up for retired life is the rational way
to go
The success of the system will be dependent on its adaptability
to the joint-family system and demographics of the Pakistani
society
Awareness and education about the benefits of pension plans
will be necessary for the VPS to gain widespread acceptance
Following the examples of developed and other developing
nations the VPS can be implemented in Pakistan. The product
will be a success as long as it offers flexibility and ease to the
investors to save up for their retired life
Thank You!