Singaporeans have much to gripe about the Central Provident Fund. In the early years, some were angry it prevented them from making their own investment decisions. Rules were relaxed to allow contributors to allocate part of their savings for investing in the local stock market. Some griped the savings rate were so high they are left with no discretionary funds to invest in housing. Rules were changed to allow the savings be drawn for housing mortgage payment. The current gripe is paying for housing has wiped off their retirement nest egg. The rising cost of government built HDB apartments has left many with very little savings in their CPF account for retirement, exacerbated by the diminishing value of the lease. A perennial gripe is the rate of return on the mandatory savings is measly.
Retirement funds are basically of two types - provident funds and pension plans.
A provident fund is where employees and employers make contributions into their account and the money is invested in two ways - it either goes into a pool that the fund manager invests, or the contributor has a choice of how he wants it invested. Revenue from the investment is used to pay off fund management cost, and net earnings accrue to the contributors. In other words, all money received are invested, thus funds are available to pay members when they retire and start getting a regular monthly payout from their own account. In the case of CPF, the contributions go into a pool. What is unique with CPF is the funds are primarily invested in SSGS which is a non-marketable Special Singapore Government Securities paying a minimum rate of return of 2.5 % p.a. This means the retirement fund is guaranteed by the government. It is risk-free. By law, the government cannot spend the proceeds of the SSGS. The funds are pooled with the sovereign wealth fund GIC for investment.
A pension fund is where employees and employers contributions are collected by the fund manager who has full discretion on what to do with the contributions. The employers or the government comingle the contributions they receive with all other revenue and use it accordingly. They may or may not invest some of the revenue to support the pension funds. There is a liability to pay retired members, but no specific assets for this purpose. Upon retirement members are paid a fixed monthly sum according to a payment plan and the money that is used for these payouts come from current paying members. This is called unfunded liability. Most of the Western countries government pension plans are on this basis. There is a factor called 'dependence ratio'. This measures how many people are there in the working age group compared to the numbers in retirement. Most of the Western countries have a high ratio of about 67%. This means 4 working citizens are supporting 1 retired person.
In comparison, CPF is a fully-funded retirement fund while most of the Western government pension plans are unfunded. For these Western countries, negative population growth rate is a demographic time bomb as it will drag the dependency ratio down. The contributions from those currently working will soon not be sufficient to meet the regular payouts for those retired. This could perhaps be one reason for the mad open border policies of the Western countries in a crazy last ditch effort to increase their numbers.
Many decades ago I tried my hand at selling some investment products. Like all investment sales person, I pitched my product as one of the best, highest ROI and so forth. My referrals led me to a supposedly high-net worth guy in his 70s. After going through the charts and brochures, the senior gentleman thanked me for the presentation and taught me something. As a retiree, he had no interest in high returns if that means taking a teeny weeny bit more risk. He was happy with his low return low risk portfolio that provides some regular cashflow. That's exactly what CPF is all about. For a Singapore investor, our government issued securities are considered risk-free. Low-risk, low-returns for a retirees' fund.
Some may well say the CPF money goes to GIC that takes on a higher risk profile portfolio. Surely that's putting retiree funds at higher risk whilst guaranteeing a measly return on the SSGS. The government is ripping members off! Actually, it is strategically smart policy to pool CPF funds with reserves to be managed by GIC. There are many tangible and non-tangible advantages for a larger fund. Advantages include economies of scale which reduces transaction costs and unit cost of operation; better capitalised operation has better access to leverage and liquidity thus more opportunities; a bigger name has better access to markets and more direct and better deals; a bigger brand name has more influence and can negotiate better and impact prices; has better access to research resources, better risk management tools, and presence in markets; more leeway for diversification of investment portfolio; and lastly a huge fund can withstand the occasional ugly disastrous investment decisions that would cause a smaller fund to collapse.
There are no other retirement funds that operate like CPF. All of them make independent investment decisions. Pension funds face tremendous challenges in managing large pools of capital. Millions of retirees and their beneficiaries are at high risk from mismanagement, fraud, and risky investments. Regulatory agencies have failed time and again to prevent fund manager abuse especially in the matter of their arrangement with investment houses. Excessive fees paid to investment houses is common. Another issue against investment houses is the increasing allocation of exposure out of equities and bonds into high risk hedge funds and mutual funds. Here are some examples:
Public Employees' Retirement System of Nevada
Bernie Madoff scam:
No doubt Singaporeans will not see CPF any differently after reading this blog. They will most likely say the funds are placed with GIC for higher-returns higher-risk investments. GIC may well suffer the same experiences of above-mentioned pension funds chasing higher yields. And indeed, GIC has had numerous disastrous outcomes in their investment decisions. This is a fair concern. I have mentioned in blogs past that GIC is supposed to maintain a lower risk profile than Temasek. It is not possible to look through the opaque wall of GIC to assess their risk exposures. But looking at reported transactions from investment intel, it is clear there is increasingly no difference between GIC and Temasek in the way they invest. They have gone into very high risk venture funds backing various start-ups. I have mentioned in the past that considering GIC is investing pension money, the caution of that 70 year old prospect that I approached to sell investment products has a certain ring for attention.
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