THE MAIN CHARACTERISTICS OF THE HUNGARIAN PENSION REFORM

CSABA NAGY, PRESIDENT

CONFERENCE BY BULGARIAN ASSOCIATION OF SUPPLEMENTARY PENSION SECURITY COMPANIES SOFIA, February 15-18, 2005

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OTP Pension Funds

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Hungarian Association of Pension Funds ‘STABILITAS’

REASONS FOR PENSION REFORM

   Demography – baby boom in 1950’s Costs of PAYGO scheme are not affordable in the 21st century Value and replacement ratio of pensions has fallen since 1990 

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Hungarian Association of Pension Funds ‘STABILITAS’

WHAT IS A PRIVATE PENSION FUND?

A form of partially opted-out scheme designed to substitute roughly 25 % of state social security pensions

PILLAR 2

An optional item of employer sponsored employee benefit schemes As opposed to PAYGO scheme, an institution that establishes •transparency and •relationship between contributions paid by the individual and pensions received 

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Hungarian Association of Pension Funds ‘STABILITAS’

WHAT IS A VOLUNTARY PENSION FUND?

PILLAR 3

A savings vehicle providing for supplementary income to retired members A fundamental part of employee benefit schemes A form of savings entitling to tax allowances As from 2005 also a financial product: • up to 50 % of savings can be offered as a collateral to bank loan • up to 30 % of savings can be borrowed by the member 

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Hungarian Association of Pension Funds ‘STABILITAS’

KEY FEATURES

  

PILLAR 2

Mandatory to new entrants into the labour market Rates of contributions are set by legislation, currently 8 % of the monthly earnings that can be supplemented up to 10 % Term of savings up to retirement   

PILLAR 3

Voluntary membership Contributions (in excess of a minimum fee) are optional Minimum savings over 10 years (waiting period) or up to retirement •

Mutual ownership of members

•

Non for profit organisations

•

Fully funded schemes of

•

defined contribution (DC) type

•

Tax incentives are granted

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Hungarian Association of Pension Funds ‘STABILITAS’

STRUCTURE OF LONG TERM SAVINGS

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Insurance coverage

(open market since 1989) 

Voluntary mutual pension funds - VPFs

(established since 1993) 

Mandatory private funds - MPPFs

(set up during 1998 and 1999)

Other savings Insurance

VOLUN TARILY

Voluntary pension funds Mandatory Private Pension Funds State Social Security Pension

OBLIGATORILY 

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Hungarian Association of Pension Funds ‘STABILITAS’

ORGANISATION STRUCTURE (VPF, MPPF) STATE SUPERVISORY AUTHORITY

General assembly of the members Board of Directors Supervisory Committee

PROVIDERS

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Bank account manager

  

Administrator Asset manager Custodian

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Auditor Other

(Certificate Authority of digital signatures from 2005, etc.) 

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SPONSORS

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Hungarian Association of Pension Funds ‘STABILITAS’

CHANGES IN ENVIRONMENT

    

MAJOR ISSUES 10 YEARS AGO MAJOR TOPICALITIES

Political support of the pension  The reform is irreversible and trusted, reform was questionable but tax allowances might be cut The establishment of trust of the population in the reformed scheme seemed to be the largest challenge  Persistency of members, especially in voluntary funds on the termination of the waiting period is of highest concern Investments primarily in state guaranteed bonds  Focus is on diversification of portfolio and monitoring of asset managers Administration and accounting and reporting techniques had to be elaborated  Confidentiality and security of data and business processes, automated data processing is emphasized Principles and techniques of audit  and supervision had to be worked out 

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Disclosure of performance, investment policy, benchmarks and returns on invest ment to members 

Hungarian Association of Pension Funds ‘STABILITAS’

CHANGES IN REGULATION

Milestones

indicating development of regulation & supervision         

1997:

Pension reform (private funds) passed by Parliament

1998:

Private funds, initially about 40, are formed and approved by supervision

1999:

Active labourforce can opt –out and register in private fund by 31 st August

2000:

Hungarian Financial State Authority is formed by union and common management of former agencies to monitor the entire financial sector

2001:

Harmonisation of legislation with respect to private and voluntary funds

2002:

The option for withdrawal from private fund and switch back to state scheme has terminated on 31 st December

2003:

rate of contribution in private pension funds is raised to match initial reform objectives (7 % in 2003, 8 % from 2004)

2004:

Harmonisation of pension legislation with EU directives, although portability of pensions is still outstanding Tax allowances to members to reduce their withdrawal of savings from voluntary funds (rate of tax levied on paid sum reduces by 10 % each year)

2005:

Voluntary pension savings (as 10 years waiting period matures) can be used as collateral to bank loan in order to withhold members from consumption of future supplementary pensions 

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Hungarian Association of Pension Funds ‘STABILITAS’

DRAWBACKS OF THE HUNGARIAN SCHEME

    Poor design as compared to the Bulgarian model and Anglo-Saxon funds  Mutual ownership and general assembly is ineffective and inefficient,  Exclusively formal decisions are made  Weak guarantees Accounting and asset valuations are over-sophisticated in comparison to unit pricing and keeping members’ account in unit-linked funds Frequent changes in legislation put a cost burden on operation (in percentage of contributions) Decentralised collection of contributions and parallel procuration processes in levying non-payers of private pension funds is rather inefficient and costly 

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Hungarian Association of Pension Funds ‘STABILITAS’

CHANGES IN REGULATION OF INVESTMENT

Milestones

indicating the development of regulation of investments by funds          

1996:

obtaining supervisory authority’s approval to foreign investment was eliminated regulation on

incompatibility

of asset manager, custodian and fund managers

1997: OECD

government bonds or securities can be held up to 5 % of assets

1998: concept of accruals

instead of cash received & paid in accounting, asset valuation;

performance measurement

, annual returns according to uniform formula published

1999: Custodian

is responsible for reporting on composition of assets and compliance

2000: Quarterly reports

to supervision on investments and operation are largely simplified

2001: investment policy, and principles of asset management (

i.e. targetted breakdown and duration of assets, furthermore a

benchmark portfolio and returns

in order to measure performance to be approved by fund management introduction of portfolio by choice system (voluntary pension funds)

2002:

funds are obliged to open a

bank account with the custodian

and all transactions related to investment have to be recorded on this account;

2003: daily asset valuation

allocation of (fund with assets over EUR 4 million);

returns based on market pricing

to members’ accounts;

2004:

regulation of investment in

real estates

;

matching

the currency of assets with currency of emerging liabilities;

2005:

50 %

limitation

on investment in equities is

eliminated

;

responsibility

regarding the activity of custodian is stipulated.

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Hungarian Association of Pension Funds ‘STABILITAS’

PORTFOLIO OF FUNDS

Private Pension Funds as of September 30th, 2004 72,70% Voluntary Pension Funds as of September 30th, 2004 0,56% 4,93% 9,48% 0,68% 8,56% 3,19% 1,71% 7,79% 0,47% 8,51% bank deposit equities corporate bonds state securities investment trusts cash other 0,61% 8,22%

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OTP Pension Funds 72,59% bank deposit equities corporate bonds state securities investment trusts cash other

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Hungarian Association of Pension Funds ‘STABILITAS’

ADMISSIBLE ASSETS TO PENSION FUNDS

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Asset classes specified in the legislation

     Short selling of papers is prohibited Cash of a maximum of 500.000 HUF cca. 2,000 EUR at cashier’s office Balance on bank account and bank deposit Government papers (T-Bills, bonds, domestic or foreign, etc.) Corporate and non-state-guaranteed bonds and foreign equities are altogether maximised in 30 % of assets, each type limited to 10 %      Balanced and equity funds are maximised in 50 % Mortgages maximised in 25 % of total assets Standard futures or options in relation to collateral security or arbitrage Repurchase agreement based on government paper limited to 20 % Real estate or real estate related investment funds up to maximum 10 % Investment outside OECD or EU countries are maximised in 20 % of total value of foreign assets 

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Hungarian Association of Pension Funds ‘STABILITAS’

PROCEDURE OF INVESTMENT EMPLOYERS, MEMBERS ASSET MANAGER    BANK ACCOUNT   

securities

CUSTODIAN  KELER Hungarian Clearing House  PENSION FUND   Financial assets Information, mandate Daily asset valuation SUPERVISORY AUTHORITY HFSA 

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Hungarian Association of Pension Funds ‘STABILITAS’

KEY FIGURES

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Hungarian Association of Pension Funds ‘STABILITAS’

MARKET SEGMENTATION

Private Pension Funds

3 3 3 4 5 2004 2003 2002 2001 2000 7 6 5 5 5 Voluntary Pension Funds 2004 2003 2002 2001 6 7 7 6 5 5 5 5 5 5 6 7 8 5 5 5 5 5 64 71 78 86 Private Funds set up by banks Private Funds set up by insurance companies Private Funds set up by employers Other Private Funds

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Hungarian Association of Pension Funds ‘STABILITAS’

MARKET PARTICIPATION – Mandatory Funds

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Based on number of members

Non members of Stabilitas 16,8%

MKB Rt. 1,1% OTP MPPF 28,4%

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Based on assets in 2004

Non members of Stabilitas 16,8%

MKB Rt. 2,1% OTP MPPF 26,4% ING - NN 15,5% Allianz Hungária 13,0% Credit Suisse L&P 8,3% ÁB-AEGON 17,6% ING - NN 19,3% Allianz Hungária 10,8% ÁB-AEGON 16,6% Credit Suisse L&P 9,3%

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Hungarian Association of Pension Funds ‘STABILITAS’

PRIVATE PENSION FUNDS, Assets & members

2500 2000 1500 1000 500 0

1347 2064 2193

Number of members 3500 3000 2500 2000 1500 1000 500 0

115 359 703

Assets in million Euros 

OTP Pension Funds Membership 2253 2225 2305

in percent of active population

ASSETS 1134 1652 2246

in percent of GDP

2377 2958

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Hungarian Association of Pension Funds ‘STABILITAS’

60% 50% 40% 30% 20% 10% 0% 5,0% 4,0% 3,0% 2,0% 1,0% 0,0%

VOLUNTARY FUNDS, Assets & members

1400 1200 1000 800 600 400 200 0

13 194 464 675 Membership 940 1008 1081 1153 1179 1218 1 242

35% 30% 25% 20% 15% 10% 5% 0% 2500 2000 1500 1000 500 0  Number of members

2 27 93 229

in percent of active population

ASSETS 404 636 900 1168 1433 1737,6 1934

3,0% 2,5% 2,0% 1,5% 1,0% 0,5% 0,0% Assets in million Euros

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in percent of GDP 

Hungarian Association of Pension Funds ‘STABILITAS’

LONG TERM SAVINGS IN PERCENT OF GDP

12% 10% 8% 6% 4% 2% 0% 2,08% 1,00% 0,29% 1998 3,93% 3,84% 3,55% 3,32% 3,14% 2,63% 2,11% 1,96% 1,71% 1,40% 0,79% 1,34% 1,90% 2,43% 1999 2000 2001 2002 Life Insurance Reserves Voluntary Pension Funds Private Pension Funds 2,34% 3,02% 2003 2,52% 3,86% 2004 Q3

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Hungarian Association of Pension Funds ‘STABILITAS’

THANK YOU FOR YOUR ATTENTION

Should you have any questions, please contact in e-mail [email protected]

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OTP Pension Funds

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Hungarian Association of Pension Funds ‘STABILITAS’