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Sunday 20 October 2019

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Staying strong

Written by David Adams
February 2013

David Adams explores how the Swiss pension system tries to keep its strengths by regulatory changes and changing investment strategies

You can argue about how you define such things, but by some measures, the Swiss are the richest people on earth. Does this mean that the country is immune to the sorts of problems associated with pension schemes elsewhere? Well, no. But things could be worse: 2012 was a pretty good year for many Swiss pension schemes, thanks to a good year in equities, supplemented by healthy returns from Swiss real estate investments, with many funds earning returns of 6-7 per cent.

Switzerland has a three pillar system: first the state pension; then occupational schemes, incorporating a mandatory element for which a minimum rate of interest is guaranteed each year by government (currently 1.5 per cent), with a guaranteed conversion rate payable on retirement as funds are converted into pensions (currently 6.8 per cent). Most workplace schemes are Pensionskassen, using a structure similar to that seen in other countries, but some small and medium-sized employers use collective foundations (Sammelstiftungen), which may carry all risks, or share them with/outsource to insurers. Private arrangements are the third pillar.

As elsewhere, one key trend is the move of occupational schemes from defined benefit (DB) to defined contribution (DC). But the mandatory rates payable by second pillar schemes creates additional pressure. With interest rates and yields from Swiss government bonds (of which many schemes have allocations of 30 per cent or more) very low, passive, low risk investment strategies are unsustainable.

Funding levels are improving. The proportion of private sector funds with a funding shortfall was 12 per cent in 2012, compared to 25 per cent in 2011, according to Swisscanto, with the estimated funding ratio up 4 per cent to 106.8 per cent. Funding ratios increased for public sector funds aiming for full funding too, to 98.5 per cent. Some public sector funds use state subsidy so only need to be 80 per cent funded; the funding ratio for this group was 74.7 per cent. Yet even for those funds with a positive score there is clearly a need to try to build greater reserves, to take on more risk and counter the effects of increasing longevity.

But many trustees seem to be preoccupied by regulatory demands. One important change has been the creation of the Oberaufsichtskommission Berufliche Vorsorge (OAK BV), the new pensions regulator, which assumed responsibility for oversight of the supervisory authorities operating in each of Switzerland’s 26 cantons at the start of 2012.

In addition, major structural reforms are coming into force in stages, to improve governance and transparency. Some have criticised these changes for imposing extra administrative demands. “Swiss pension funds still have a high degree of freedom,” insists Joseph Steiger, deputy sector leader for occupational pension benefits and financial affairs at Switzerland’s Federal Office of Social Insurance (FOSI). “The regulatory pressures are not in my opinion so hard that it has to be a high priority.”

One longer-term goal for the industry will be to lower mandatory conversion rates for second pillar schemes. The question was put to a popular vote in 2010 and easily defeated, but in October 2012 the government tried a different tack, announcing plans for further reform of both the first and second pillars. “It’s going to be a long road: they’ve announced 2020 as a possible date for the changes,” says Towers Watson pensions lawyer and consultant Simon Heim. “They say they want to offer more flexibility on retirement ages and to make early retirement look less attractive. There will be another attempt to lower the conversion rate.” More details will be published this summer, with a first draft for reform expected to be published by the end of the year.

In March the Swiss will vote on another reform, proposed by the politician Thomas Minder, designed to give shareholders more control over executive pay. The idea is to attack the bonus culture which encouraged excessive risk-taking in the financial sector, but the measure would also force pension funds to vote at shareholder meetings in their members’ ‘best interests’ and disclose voting records.

“The industry doesn’t like forcing pension funds to exercise voting rights,” says Heim. “And of course it is difficult to say what is in the members’ best interests. Can they simply assume long-term profitability of these companies is in the members’ interests? What else should they take into account: CSR, for example?” The government has developed a more moderate set of proposals which will come into force if the vote goes against the Minder plan, but this will still impose new voting requirements.

Other proposed changes include a suggestion that schemes could offer members who earn CHF126.360 or more individual investment rights for their pensions, if they waive statutory guarantees. “Under current law a plan member could choose a high risk strategy and if the markets go down he would still be entitled to his own contribution and the minimum guaranteed interest,” Heim explains. “With this initiative investment risk will be transferred to the individual member. We’re only talking about a small number of people, but multinational companies are interested, in part because these plans wouldn’t then need to be evaluated as DB plans on their books, but as DC plans.” Under the current legislative timetable, it is very unlikely such a change would be adopted any sooner than 2014 at the earliest.

A need to reduce costs has driven a move towards passive investment strategies in recent years. But might that phase be ending? Swisscanto Asset Management chief economist Dr Thomas Liebi believes calmer conditions in the eurozone will have a thawing effect on Swiss interest rates, bond yields and investment strategies. More schemes are already investigating return generating assets.

“Many pension funds are increasing investment into high yield bonds, emerging market bonds and alternative investments,” says Reto Hintermann, head of institutional mandates, Switzerland, for Swiss & Global, but also responsible for Swiss & Global’s own pension fund. “They’re looking for absolute return strategies within the fixed income parts of portfolios.” His own pension scheme has increased exposure to equities, emerging market bonds and high yield bonds.

“We have seen something of a return to risk,” says Schroders country head for Switzerland Stephen Mills. “We have been winning Swiss equities, Swiss small cap mandates – but I wouldn’t say it’s a dramatic shift yet.”

Figures from the Credit Suisse Pension Fund Index show that within the Swiss pension funds, for which CS acts as a custodian, exposures to Swiss and foreign equities rose slightly at the expense of bonds during the final quarter of 2012 – but allocations have not shifted dramatically over the past two years.

The figures also show a gentle fluctuation in real estate allocations over the same period, from around 19 to 21 per cent and back down to 20. Swiss pension funds have used local property investments for many years, but low interest rates and the relatively small size of the market have inflated a small bubble.

“We are not afraid that the bubble may burst,” says Hintermann. “We have price increases at the moment of 3-4 per cent for a year. This is not comparable to markets like the UK and the US during the crisis.” There is also growing interest in real estate outside Switzerland.

Yet, for all the debates about regulation and investment strategies, overall the Swiss pensions industry is still undoubtedly healthier than its equivalents elsewhere in Europe. “Clearly Switzerland is in a relatively comfortable position with the second pillar schemes,” says Mills. “Having said that, there’s still too much looking backwards, too much ‘we did this in the past so we’ll continue’.”

“I think the main question is still how we can make sure the system keeps its financial stability,” says Steiger. “Swiss funds are quite stable: they have kept a long-term view over the periods of financial crisis. We still can do better, but if you compare it to other countries we’re in good shape.”

Written by David Adams, a freelance journalist



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