Transcript Best Practice” Issues I

“Best Practice Topics”
Pension Management
Michael J. Spendolini. Ph.D.
President, MJS Associates
“Best Practice” Issue Identification
 Objectives
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Identify common topics of interest across the EC countries
(and beyond)
Find a consensus of opinion regarding these common issues
Identify “best practice” trends when possible
 Research
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Input from topic experts (associations, institutes, academics,
consultants, publication editors)
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Question: “Identify one or two topics that are universal and are
the subject of “best practice” inquiry”.
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“Expert” Resources
 PMI: Pension Management Institute
 IPE: Investment and Pensions Europe
 EFRP: European Federation for Retirement Provision
 CEPS: Center for European Policy Studies
 Mefop: Italian Pensions Association
 EPN: European Pensions and Investment News
 CEPR: Center for Economic Policy Research
 B&W Deloitte
 Financial Times
 National Association of Pension Funds (UK)
 The World Bank (Washington)
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Benchmarking Opportunities, Not Results
 Astounding lack of information sharing and networking at all
levels: industry, country, EU, Global participation
 Very few valid “process” benchmarking studies completed, most
resemble traditional comparative/competitive analysis
 “Fractioned” and competitive nature of marketplace inhibit
aggressive benchmarking
 National and EU government initiatives are beginning to take
shape
 Many are now calling for increased information sharing and
initiation of true “process” and technology benchmarking
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Topics of Interest: 2004
 Diversification of investment options
 Emerging role of investment consultants
 Pan-European investment issues
 The role of pension boards and trustees
 The role of politicians
 Need to improve customer focus and communication
 The challenge of developing meaningful benchmark data
 Social responsibility impact on investment strategy
 I.T. solutions in support of pension/investment
management
 Impact of IFRS / IAS19
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Diversification of Investment Options
 “Would these (e.g. AdEPP) funds…..based on a pay-as-
you-go-basis….whose members rank among Italy’s best
paid white collar workers, have prospered better if they
were established as proper pension funds, with
investment freedom since the 1960s and a stronger
actuarial connection between contributions, income, and
benefits?”
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EPN Magazine 2004 “Full Investment Freedom?”
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Diversification of Investment Options
 Hot asset classes: hedge funds, private equity, property,
currencies, emerging markets, small cap
 Hottest class: hedge funds
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2003: global return 13% (steady for 2004)
Estimates close to $1 Trillion invested (still <1%)
European institutions investing some portion of portfolio in
hedge funds will rise from 21% in 2003 to 50% in 2005
New S&P European-based service for “funds of hedge
funds”
 In Italy, successful move to Multicomparto reflects trend
toward greater diversification interest
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Emerging Role of Consultants
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Strong role as fund “monitors” to keep watch over pension fund managers
(e.g., risk assessment and performance evaluation)
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Supplement with in-house software – e.g., Deutsche Bank’s WM Company
and Euraplan
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Other key roles, legal counsel, IFRS/IAS19 implementation, risk management
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Challenge: consultant contracts tend to be long-standing and based on trust
rather than formal performance assessment
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Micro: employees seeking help in deciding what type of fund to sign up for
may seek out independent advisors or company may provide help
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Macro: some resistance to fee structure based on higher international
consultant fees and traditional payment on project basis
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Challenge: strained relations between trustees, fund managers, and
consultants following losses
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Pan-European Investment Issues
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“It is clear that a single strategy for saving and investment products in
Europe is neither feasible nor appropriate in the current demand
climate.” – B&W Deloitte
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“The European Commission seeks to introduce a coordinated approach
to the diversity of member states which govern non-State pension
provision. It is not attempting harmonization. It seeks the elimination of
unduly restrictive or discriminatory tax regulations while safeguarding
the tax revenues of member states.” – European Commission
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“The central claim is that the Notional Defined Contribution (NDC)
system is an ideal approach to deal with diverse fiscal and social reform
needs, and to introduce a harmonized structure while allowing for
country-specific preferences with regard to coverage and contribution
rate” - World Bank
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Pan-European Investment Issues
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Need to understand “best practices” and documented results in key
areas in relation to EU “Pension fund Directive 2003/41, particularly as
they might impact multinationals
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Models for improved corporate governance and improved risk management
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Cost savings: economies of scale, administration efficiencies, negotiation of lower
charges from service providers
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Increased opportunities for change, help corporate restructuring as EU enlarges,
standardizing retirement benefits across business units.
Key challenges
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National differences in financing regulations, retirement ages, vesting
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Taxation: the conditions under which contributions, investment income, capital are
taxed or exempted and conditions for deducting contributions for tax purposes.
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The Role of Pension Boards and Trustees
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“Pension funding and investment strategy decisions are too important,
in the present economic climate, to leave entirely to trustees and
pension boards. We find that they actually welcome a strong “steer”
from the scheme sponsor on these difficult issues” – Hewitt Associates
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“New legislation will require new levels of competency. Should trustees
be regarded in the same light as non-executive directors? If not, why
not? If yes, should they be paid accordingly?” - Financial Times
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Challenge: to develop a well-defined job market for trustees
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Need to develop and evaluate training and development resources for
trustees
“….that pension fund trustees often lack the resources and expertise
to make informed judgments; as a result trustees often rely on investment
consultants. Yet they often lack specialist skills and rarely have their
performance assessed or measured”. - Myners Report (UK)
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The Role of Politicians
 Best practices for improving communications between pension
fund industry and politicians a high priority
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“You have to inform them, brief them, teach them. If you don’t, you’re a
sitting duck for them” - Karel Stroobants (former head of Belgian Pension Fund
Association)
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“I’m always struck by the gap between what politicians say in terms of
supporting, and perhaps even needing, a strong private sector of
pensions provision and how difficult they make it for that to happen”. --- Eric Lambert (Head of Performance Consultancy, WM Co.)
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“Politicians of all parties are bad for pension funds. I think that the
need to look forward is very difficult for them” – Adrian Cunningham (Co.
Secretary ASBL-MEP European Parliament pension scheme)
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78% of pension fund managers identify politicians/regulators as the
biggest threat to pension funds – IPE Survey, 2004
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Need to Improve customer focus and
communication
 Specifically improved communication from pension fund
manager with plan members (good and bad news)
 Improved methods of measuring and acting upon
customer satisfaction data.
 Emerging role of Manager of “Stakeholder Relations” with
focus on key customer segments
 Proactively communicate details of investment plans and
strategies. Educate the customers and stakeholders.
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Customer Communication
 Poor communications patterns represent a major
exposure in these changing times:
“Commerzbank sent shockwaves across German labor markets when it
announced that it was canceling the agreement over company
pensions. The move unleashed protests from workers, and the bank’s
public image suffered. During the process of change, Commerzbank
admits that mistakes were made in the way the whole thing was
handled. “The problem was that we did it very badly…..informing the
staff but not telling the works council. We misjudged it” -Peter Pietsch of
Commerzbank as reported by IPE
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Challenge of Developing Meaningful
Benchmark Data
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Some weaknesses noted with assumptions behind typical ALM approach to
producing benchmarks (e.g., breakdown in the equity-bond correlation)
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Interest in “Liability-driven” benchmarks (more risk averse and takes cash
flow matching or some variation as a starting point).
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Innovative approaches that replace the traditional benchmark index by a
simulation process (randomly generate a large number of portfolios and
measure performance of each. Manager then assessed according to some
performance level - e.g., percentile in relation to the distribution)
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Analysis of benchmarking that focuses more on longer term performance
indicators as opposed to pressures of quarterly performance cycle.
Dilemma for trustees….how to exercise due diligence responsibilities yet
encourage managers to focus on the longer term.
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Challenge of Developing Meaningful
Benchmark Data
 Recent examples of Benchmark citations re: Venture Capital
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Cambridge Associates LLC European Venture Capital Index
British Venture Capital Association and European VCA data (using Venture
Economics European data)
Mefop and Russell/Mellon attempt for Italian pension fund market
 Problems with proper benchmarks for private equity
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Funds not required to publish information other than to investors; hard to get
hold of data on reliable basis
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Data from fund managers easy to manipulate – concern for quality
 Pressure building for greater transparency of fund performance
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In U.S. Freedom of Information Act to force funds disclosure
In Europe, more problematic, e.g., interim asset valuation by general partners
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Social Responsibility impact
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SRI mutual fund market continues to grow in Europe – more than 220 SRI funds available
(Italy 2nd largest market @2.3 b Euro)
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Proof of a growing and robust SRI index industry in Europe
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European Commission 2001 green paper acknowledges the need to maintain a “level
playing field” in the context of social responsibility.
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UK: 82% of fund managers believe that environmental management linked with growth in
market value of companies
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Belgian Parliament: mandate pension fund annual report including social, ethical, and
environmental aspects
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France: Code monetaire et financier – investment managers must consider social,
environmental, and ethical factors….
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Germany: German Parliament established an ethical , environmental, and social
disclosure regulation in the German pensions law.
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Sweden: 5 largest state-controlled pensions must include environment and ethics in
their investment policy
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I.T. Solutions
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General Goal: Early adopters of pension administration technology want
to implement a common IT platform across European sites. There is a
need for tools capable of handling all of the rules and processes of each
national market.
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Main tasks/topics: scheme administration, mutual fund shareholding,
proprietary links for execution of trades, deposit reconciliation,
integrated imaging and workflow, commission calculations, annuity and
installment payouts, loan processing, tax reporting, and management
reporting
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Vendors offering ASP (Application Service Provider) models that sell
software through remote delivery methods – pension scheme provider
can “dial in” to the scheme through the internet. Hopefully eliminate IT
development and maintenance for pension scheme provider, while
maintaining control of operations. Cost effective especially for smaller
providers.
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I.T. Technologies
 Main focus areas for technology development and
application:
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integrated voice response systems incorporating speech
recognition technology
Browser-based call center solutions
Participant financial education (integrated)
 Important for each product to contain proprietary scripting tools that
allow internal customization without the need for additional code.
This will support more easily defining plan business rules,
incorporating site-controlled tables or algorithms, and enabling local
language screens.
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Impact of IFRS and IAS19
 How best to implement process changes driven by IFRS :
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Approaches to P&L, budgeting, forecasting, management reporting
Govern use of financial instruments such as hedge funds and
leasing
Affects on corporate governance
Challenge ability to disseminate knowledge/information to
stakeholders and financial community
 For IAS19, 2 topics hold interest as “conversion” issues
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The valuation of assets based on market values (Fair value
accounting)
Dealing with increased pressure to minimize under-funding, while
insuring long-term continuity of the fund.
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