Gandy Gandidzanwa & Itai Mukadira

While both the non-normalised economic environment, characterized by hyper-inflation and huge currency depreciation, is no innocent by-stander to the spectacular failure of the retirement savings system, it is not the sole culprit.

Yes, the economic situation could be considered the number one contributor of the bulk of the failures of the industry, no doubt. When inflation hovers around double digit numbers perennially, there is no long-term investing that would survive. Our case has been extreme, we have endured years of triple digit inflation rates for some time now.

Where a system has considerably failed however, as has been with ours, such sweeping accusations and blame games cease to be good enough. This is especially so for a system that is operated by some of the best brains on the land. While ensuring economic recovery cannot be expected to be the prerogative of the pension fund industry alone, we need to self-introspect and ask all the difficult questions. In a crisis, of whatever form, we are all called upon to volunteer our wisdom in search of solutions. We are at that point now. In fact, we have been there for quite some time now and have continued to keep circling around in the hope that the woes would disappear on their own. What’s clear now is that this storm isn’t going anywhere on its own. We need all hands on deck.

One of Four Key Determinants
The journey to a comfortable retirement, under a Defined Contribution regime, is propelled by a four-cylinder engine. When it’s clear that the engine has lost its power, it is because one or more of the pistons is no longer firing. We need to open the hood and locate the trouble causer(s). Expert mechanics know that the most effective way of troubleshooting is one that is anchored on solving-by-elimination techniques. The pension fund industry technocrats can borrow from this wisdom too.

The determinants of how much a member retires on can be looked at through the four pistons of; how much a member contributes, for how long they contribute, the investment return that their contributions earn, and the expenses that they incur along the journey. While all of these pistons might be under-firing concurrently, as mechanics of the industry, we will take a diagnostic approach in solving the problem. Our first focus is a deep dive into the last piston – the expenses that are deducted from members’ savings. This is the only piston that is unique in that of all the four pistons, the higher positioned it is, the more detrimental it is to the mission of taking members to a comfortable retirement.

It is also the only piston over which members have absolutely no control or any ray of influence at all. All this, and yet it’s impact, even from just a slight increment, can be quite devastating to the ambitions and dreams of a comfortable retirement. Did you know that something as small as an additional half-a-percent increase in asset-based fees would reduce a member’s retirement income by as much as a fifth of what it would have otherwise had been after a full career of loyally and diligently contributing?

Is the Industry Feeding on Members’ Ignorance?
There is no purchasing decision that we as consumers make without knowing the costs, including an indicator of future or ongoing costs for big ticket tangible items like fridges, cars, or houses. We approach it similarly with insurance, medical aid, or mortgages. Retirement savings should not be treated any differently at all.

While members’ disengagement with their retirement savings could be blamed for a lack of awareness of the extent to which their retirement savings pots leak, the industry has also done very little to lead with transparency. The degree of opacity on fees can never be over-exaggerated. To make matters worse, there is quite a battery of different fee models that funds can be hit with.

From asset-based fees to per-member-per-month fees, to percentage of salary, to percentage of contributions, and, from fixed per fund fee to performance-based fees, to flat fees, to time-based fees, to project-based fees. This list is still not even exhaustive. Would it not be possible to have one common fee structure to facilitate easy of comparisons, one would ask? It’s not uncommon to find two service providers, on exactly the same contract, proposing totally different fee models, and trustees are left to make sense of which one is more cost-effective.

A Plethora of Fees
Funds incur costs and fees to administer retirement savings and manage investments. Globally, more than 90% of the total costs are linked to asset management services. Our case would be similar. Sadly, those costs are not always presented transparently enough or are that well understood. Some jurisdictions are however further down the road in regulating and enforcing transparency.

While investment fees are the highest in terms of quantum, the impact of the rest of the fees should never be underestimated. This is especially so in cases where the fees are frontloaded, that is, deducted from contributions as pay-aways before the contributions are invested. Administration fees, in particular, are generally deducted upfront. Other fees deducted from a member’s pot include actuarial fees, auditing fees, investment consulting fees, legal fees, risk broking fees, compliance fees, risk management consulting fees, and others.

Depending on the type of assets a fund is invested in, asset management fees can include manager selection charges, guarantee charges, capital charges, performance fees, platform fees, and policy fees. Then we still add operational fees and transaction fees to arrive at the Total Investment Charge. Other costs to watch out for, where these are charged for separately, would include client relationship management fees. Most members would still need individual financial advice which they need to pay for separately. At retirement, the member’s accumulation is converted into a pension based on rates that include a safety margin, presumably to account for the risk and uncertainty the provider is exposed to.

No doubt, it is really such an endless list of fees. To that of course, you still need to add regulatory fees.

Each fee, or a couple of them, goes to one of the many different service providers who all are said to bring in different types of required expertise and skills. From lawyers, to actuaries, to investment consultants, to asset managers, to risk management consultants, and, from brokers to compliance officers, to auditors, to administrators, and the list goes on. Not only does each one need to cover their operational expenses, they also need to cover their head office fees, executives salaries, add a margin of safety, and still apply a profit element.

Lack of Costs Transparency
That the nature of pension funds, and specifically the regulatory requirements, demands that the industry be served with so many different service providers is a weak argument. Effective regulation is one that advances and reinforces the achievement of societal dreams and hopes, and should not be seen to be thwarting or frustrating them. Where we are right now requires that we all re-seek meaning of what we are aiming to achieve and how we are hoping to do so. One would argue some old practices and policies are now due for a complete review, if not a total overhaul altogether.

It is troubling to think that two workers in a similar industry, with similar salaries, find themselves in vastly different situations at retirement because of fee differences of the funds their employers contributed to.

Not only is cost transparency and disclosure requirements critical, there is a need for a disclosure template as well, if any efforts for fee comparisons are to be sensible. There have been regulatory disclosure requirements for some time now, but it is not very clear to what extent has the industry abided by them. The next step would be to show all that information on open websites so that pension funds can see how their own costs compare to those of other funds. Furthermore, if only members were adequately engaged with their retirement savings matters, such disclosure requirements could be made more effective if required to be applied at member level, and not just at fund level.

Value for Money
“What gets measured gets managed.” Trustees need to start paying particular attention, not only to the costs that they are incurring, but also those that comparable funds could be enjoying. A centralized database of all funds’ fees, for comparison purposes, would help redirect trustees’ attention to fees and charges. The regulator should devise ways to ensure that all costs incurred by pension funds are transparent, reported on, accounted for, measured, and managed for the benefit of members.

Of course, cost levels should always be judged in relation to the quality of service rendered. Indeed, “Pennywise and pound foolish” is a classic saying that indicates that a judgment based purely on curtailing costs is flawed. Charges can only be properly evaluated when you look at value for money, and how that translates into value for members. That means making sure that charges are viewed in the wider context of scheme design and delivery – that is, what are members getting for their money.

Moving the notion of pension fund quality management away from just thinking about charges in isolation, and towards focusing on scheme value, puts the spotlight on other aspects of scheme design as well. These could include quality of scheme communications and how effective those are at encouraging members to engage more with their retirement savings matters. The outcome of that would be getting them to build really big pots for their retirement.

Innovation is Key
Globally, a common characteristic of leading funds is their ability to innovate, rather than rely on practices or ideas that may have worked in the past. In our case, we have not allowed the pension fund industry to evolve.

Regulation has a cost – both in terms of compliance and reporting, as well as in terms of monitoring. At the end of the day, no matter how the cost is presented in the fund’s accounts, members ultimately pay for it. Especially for smaller funds, the weight of new regulation can be quite overwhelming, and the costs of complying may simply be contrary to the objective being aimed for. One could then argue that maybe what we need is a re-ordering of the steps – first consolidate the industry, and then attend to costs if both economies of scale and real competition fail to bring costs down on their own.

Loosely speaking, fee regulation, just like “price controls” anywhere else, will likely not necessarily work. What we are lacking is a system that is anchored on tech-based solutions – one that increases development of self-service support models. For that, we need a more competitive industry where survival is dependent on innovation. We do not have that currently.

The industry should not appear like it is systematically exploiting its clients, decimating the savings of uninformed, misinformed, inert, disengaged, and by extension, price-insensitive members. An outsider would be justified to feel like there is an unchecked feeding frenzy at the members’ retirement savings pots.

Any attempt to put a lid on fees should be at the all-in fee level, otherwise the industry would find ways of redefining old fees into something that is less controlled. Caps applied at an individual service level suffers the risk of failing to align with differences in the quality of services rendered. Where controls are at fund level, then the competition is focused more on providing quality member experience.

Noting the above, in some markets, regulatory authorities have gone the all-inclusive cap on fees route. The beauty of an all-in fee is that, not only is it easy to measure and compare, it also views retirement savings management as one product, which is exactly what it is. An asset-based fee cap of 0.75% on annual management fees has been set in some countries. This applies to the default options. Of course, where the government is trying to promote significant allocations to alternatives, such as infrastructure and private equity, the cap would need to be reviewed upwards. While that cap is for a developed economy, the ultimate determinant of its success is a function of how organized, structured, and tech-enabled an industry is. That, fortunately, is not way too directly influenced by a country’s economic status alone.

While with the right will and resolve, the direct costs can be arrested, there are also some indirect costs that require attending to and addressing. As mentioned, regulation for instance, in and of itself, carries some indirect costs. The current investment guidelines, by which all funds are required to abide, is not what’s required for the current environment. In fact, in its current form, it has never been suitable for any environment. We are, however, aware that the regulatory authorities are reviewing this. Structural issues of the industry are another source of friction hindering the successful attainment of the desired outcomes.

Our economic environment has posed some serious headwinds to getting more members to retire comfortably. Inflation and negative real returns have been a drag to getting members to retire with sensible accumulations. Utter disengagement of members from their retirement savings has also indirectly contributed to where we are in a significant way. The industry does not seem to have done enough anyway to bring them to the table and to get them more engaged.

Conclusion
With all of the above said, it is incumbent upon us that we address the notion that the pension fund industry is living large while retirees live in abject poverty. Nothing could be further from the truth, and that is the sad part of the current state of affairs. There are no winners, everyone is a loser. It is the result of a fragmented industry requiring some serious consolidation – both on the part of the funds and schemes, as well as on the side of service providers who service them.