Risk Management
in vogue in the new millennium
- Guidelines to Trustees
By Prasheen Singh
5 September 2011
Risks...
Liability driven investing
Scrip lending
Preservation
Liquidity
Shareholder activism
Member choice
Trustee education & training
Member Communication
IPS- Investment policy statement
Brokerage
Responsible investing
Regulation 28
Risk adjusted returns
Inflation risk
Transaction cost analysis
Alternative investments
Longevity
Fiduciary responsibility
Asset-liability modelling
Credit risk
Currency risk
Market risk
ESG factors
Diversification
Trustee roles & responsibilities
Performance fees
A Changing Industry
Pension fund regulation
Pension Funds Act (Act No. 24 of 1956): Retirement Funds in South Africa
are regulated primarily under the Act which provides for the registration,
incorporation, regulation and dissolution of retirement funds and for matters
incidental thereto.
Regulation 28 : Prudential Investment Guidelines: This is a key element of
the Pensions Fund Act, the provisions of which govern the permitted levels
of exposure by retirement funds to various asset classes and individual
assets.
New Regulation 28
In February 2011, a new Regulation 28 was promulgated. The legislation is effective from 31
December 2011. These changes are welcomed as the previous version was signed into law in
1962 and last amended in 1998! Markets have changed significantly since then.
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Why a new Regulation 28
The extent of financial instruments available to pension funds has changed over
the years and new options are not explicitly dealt with in the previous regulation
Some of the current products offered are able to circumvent the prudential
investment guidelines
Islamic law is not well catered for as the current regulation makes provision for
the diversification of risk through interest bearing securities prohibited under
Islamic law
Allow for better exposure monitoring by requiring that the look through principle
be applied
Better protect the interests of members by requiring compliance at member
level, rather than Fund level as the previous Regulation required
More flexibility as Funds may apply for exemption from prescribed limits
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Hedge fund industry
Approximately R20 – R30 billion in assets within the local hedge fund industry
63 single manager funds submitting to surveys
Number of funds in each category against what appeared 5 years ago
June 2011
June 2006
Long short equity
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Market neutral
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10
Fixed income
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5
Multi strategy
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This has been a growing part of the industry in South Africa and needed to be
recognised by pension fund legislation
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Private equity industry
COMPOSITION OF TOTAL FUNDS UNDER MANAGEMENT AT YEAR END (RBN)
* KPMG and SAVCA 2010 Survey
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The Real Changes
Investment Policy Statement
Now a legal requirement to have an investment policy statement (“IPS”) and to
review it at least annually. Has to be in place by 31 December 2011.
In terms of PF130, a “guideline”, the IPS should already be in place.
The policy is to include:
Promotion of education of the board of trustees i.r.o. pension fund matters
Monitoring compliance with Reg 28 by its service providers
Considering the need to promote BBBEE at its service providers
Matching of assets to liabilities
Due diligence on all investments
Understanding of the changing risk profile of the assets of the fund
Consider factors which may affect the sustainable long-term performance of assets,
including ESG factors
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Asset Limits
Look-through is required. For the first time, instrument level information will have to be
obtained from asset managers for all CISes and debentures.
Member-level compliance is required. Where members are invested in different
combinations of assets, compliance with Reg 28 is required.
On-going monitoring is needed. Reporting to the FSB required quarterly.
Alternative investments, derivatives, and scrip-lending are explicitly dealt with.
Many insurance policies that carried a partial guarantee were exempt from the
Regulation. These will now be looked at on a case by case basis
The securities issued by Banks have been given special status. As such exposure
to banks needs to considered across cash and debt.
Assets that have exposure to multiple issuers need to be disclosed more than
once (for example those held through CISes)
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Asset Allocation limits
Asset Class
Previous Limit
New Limit
Cash
100%
20% with a single bank
100%
25% with a single bank
Bonds
100%
100% in govt guaranteed
100%
100% in govt guaranteed
75% in banks / 50% in corp
Equity
75%
75%
Kruger Rands permitted
10%
10% gold and all other
commodities 5%
15%
Linked to Exchange Control
25% international
5% Africa
n/a
10% overall
5% to a Fund of Funds
2.5% to a Single Fund
n/a
10% overall
5% to a Fund of Funds
2.5% to a Single Fund
Commodities
(Listed instruments on an exchange)
Foreign Allocation
Private Equity
Hedge Funds
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The Road Forward
What does this all mean for the Trustees?
1. You will need to assess current status of compliance (this is in progress)
2. A plan will need to be put in place to map out the route towards becoming
compliant
3. Apply for exemptions where and if necessary
4. Set up processes and systems to check compliance going forward
5. Address principles based issues with the board (e.g. duty to consider liabilities,
duty to address ESG)
6. Update IPS
7. Update asset manager contracts (if necessary)
8. Assess service provider competency and update service provider contracts
(where necessary)
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What does this all mean for the Trustees?
1.
You will need to assess current status of compliance
Trustees will need to understand the parameters in which they now need to operate
and how efficient portfolios can be implemented within the new framework
One cannot become less compliant before 31 December 2011
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What does this all mean for the Trustees?
2. A plan will need to be put in place to map out the route towards becoming
compliant
Funds need to assess where they may be breaching the regulation
If assets need to be sold then redemptions should be put in
If assets can be restructured then this needs to considered
But restructure should not prejudice member interests, so transition needs to be
implemented carefully
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What does this all mean for the Trustees?
3. Apply for exemptions where and if necessary
It will remain to be seen how the FSB will deal with and treat applications for
exemptions but the legislation does make room for Funds to be exempted
Closer to the time Funds will apply
For example, there may be Funds which cannot move out of Private equity contracts
or longer dates derivative structures
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What does this all mean for the Trustees?
4. Set up processes and systems to check compliance going forward
As the regulation stands compliance will need to be looked at on a daily basis (though
this only needs to be completed after the relevant quarter end)
Asset managers will need to be equipped to provide the necessary information
Funds will need to aggregate all their holdings and assess their daily compliance
Rules for rebalancing and correcting any breaches should be decided on and agreed
upon in advance
This needs to be carried out on a look through basis for both local and offshore assets
Offshore assets will need to be looked at in terms of transactions too, implies need to
understand portfolio information and asset prices
Some leeway where certificates of compliance are available
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What does this all mean for the Trustees?
5. Address principles based issues with the board (e.g. duty to consider liabilities,
duty to address ESG)
Is the Fund looking at their liabilities and is this addressed in their IPS?
Launch of CRISA means that Funds need to look at how they incorporate sustainable
investing policies into the managers actions on their Fund
More broadly full ESG including environmental and social issues need to be looked at
including targeted investments in these areas.
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What does this all mean for the Trustees?
6. Update IPS
Ensure that the IPS covers all of the new regulatory constraints
The IPS will need to deal explicitly with issues such as:
•
Liabilities of the Fund
•
Sustainable investing policies
•
The Fund’s stance on promotion of BBEEE
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What does this all mean for the Trustees?
7. Update asset manager contracts (if necessary)
The new allocation limits will have to be included in mandates (even where specialist
mandates are used the limits with regard to for example maximum investment in a
large cap stock need to be updated)
Managers are compelled to send through the level of information that Funds now
require in their current PMA’s.
Assess the more general reporting implications.
Existing mandates will need to write in clauses around sustainable investing in line
with CRISA
New regulations around the use of derivatives within portfolios need to be catered for
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What does this all mean for the Trustees?
8. Assess service provider competency and update service provider contracts
(where necessary)
Are your service providers equipped to deal with the requirements of the new
legislation?
Re-evaluate where necessary
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