Private credit might be less attractive than it was last year as investors rush into the market, but there are sweet spots to be found.
Dai Xianglong, chairman of the National Council for Social Security Fund, which oversees the SSF, says the credit crisis has increased the need for pension reform. The system, which comprises several arms including the SSF, is viewed by the Communist Party leadership as necessary to provide a cushion; workers that have confidence in at least a modest promise of retirement income and health insurance are more likely to spend than save.
Dai was previously governor of the PeopleÆs Bank of China and mayor of Tianjin, in which capacity he had floated the idea of a ôthrough trainö in which Tianjin residents could invest directly in Hong KongÆs stock market; the central government subsequently squashed the idea. He made his remarks at a recent gathering of public pension funds from Asia and America.
The government is taking steps to expand its social security net, such as extending pension coverage from cities to the countryside (it has launched a pilot programme to offer medical insurance to farmers). Migrant workers in the cities are now supposed to join the system if they work in the same place for more than six months. These steps may be tentative and hard to enforce, but they signal the direction Beijing would like to take over the coming years.
That means the SSF needs to build its assets. Although it has grown rapidly since being established in 2000, its reserve fund is tiny compared to the size of its future liabilities. In addition to the SSF, workers and companies contribute to a mandatory pay-as-you-go system of pension insurance, which covers 200 million urban employees. There is also an embryonic corporate æenterprise annuityÆ system which now has around $20 billion in assets.
Together this wonÆt cover many people, but demographics mean that by 2030, there will be two retirees for every worker in China. Despite fast economic growth, China remains far behind developed countries in per-capita income terms.
Worse, the nation faces a $110 billion shortfall in its pay-as-you-go system, as retiring workers draw down funds for their individual accounts.
For the SSF in particular, another challenge is how to invest its assets, in order to both preserve the capital and to gain necessary returns. Most of its assets remain in low-yielding deposits or government bonds. The SSF can buy domestic stocks, but the volatility this year, which has seen A-share indices plunge by over 50% year-to-date, complicates matters. In the past eight years, the SSFÆs average rate of return has hit 10%, or 7.8% in real terms, but 2008 will be a different story, and if the SSF adheres to fair-value accounting, it will record a loss.
The government is therefore expanding the ways to put cash into the SSF. Since its founding, there have been three ways to build the fund: direct transfers from the central governmentÆs budget, a lottery, and the transfer of 10% of state-owned enterprisesÆ public shares upon listing.
The central government says it will increase its budget outlay to the SSF. Second, it is considering requiring listed companies to transfer 10% of all outstanding shares to the SSF (as opposed to those which were in the process of listing). Dai estimates this would net the SSF around $10 billionÆs worth of assets. Third, state-owned enterprises may be required to divert a portion of their annual profits to the SSF.
Meanwhile, in terms of investment strategy, the SSF will reduce its exposure to domestic bonds to under 50% of total assets. It will keep stocks and domestic private equity (an asset class it was allowed to tap this year) to about 25% of total AUM. (The SSF says it will continue to outsource about half of this amount to third-party fund managers.)
Dai notes the SSF is meant to invest for the long term, so he argues the fund will benefit from the bargain-basement prices available in the A-share market. He reckons by 2010, the SSF could earn a much higher return versus inflation.
Beyond this, Dai is campaigning for institutional reform. The NCSSF is a ministerial agency but it must act like an asset manager, so it needs to attract better, more experienced professionals. That will require money, and a system to handle investments, administration and remuneration.
He will attend a national summit of regional and local pension funds to be held in Suzhou in February. Will he be able to use the forum to make an announcement?
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