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Managers must sort KiwiSaver reporting standards

Friday, March 26th 2010, 9:14AM 8 Comments

by Philip Macalister

I was asked this week by a radio reporter whether the Securities Commission’s guidelines for KiwiSaver providers went far enough. It sounds like a simple enough question but the funny thing is it was hard to answer, as the guidelines seemed to be a knee-jerk reaction to one incident. Also it seemed this is the sort of thing which should have been done years ago. The guidelines weren’t the Securities Commission taking enforcement action. They were like a reminder note to managers. One of the more important and bigger (but relatively unreported) parts of the guidance note was around performance measuring. The commission is right that there is no consistency at the moment and this doesn’t help consumers. I know the ISI has been working on developing a new standard for some time. When we see it is a moot point. Hopefully soon. One could guess that as it is taking so long there is probably a lack of agreement amongst members on what is arguably a critically important event. Even if the ISI did come up with a standard, what use would it be when around half the KiwiSaver managers are not members of the body? Then again, you could ask why reinvent the wheel when there are already globally accepted standards for reporting performance? It leads to the point that maybe it is time for the commission or government to take the lead and set the rules for the industry. The commission alluded to this in its guidelines. It said: “In the absence of a consensus (on investment performance reporting) the commission may need to consider the need to recommend legislative intervention in this area.” But will it have the bottle to do so? And how long will it take? The other point which was pertinent was what the commission said about directors taking responsibility for documents they sign. As one KiwiSaver manager said to me, a director should be shaking in his boots when it comes time to sign off an investment statement or prospectus.
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Comments from our readers

On 26 March 2010 at 10:47 am alan said:
" a director should be shaking in his (her too?)boots when it comes time to sign off an investment statement or prospectus" Well yes, if you happen to be an independent director working with a management which is inexperienced or simply brings false fiigures to the board table. I wonder what value is brought to a fund by independent directors who are often there because of their name rather than for experience of the investment markets or a related discipline?
On 26 March 2010 at 12:21 pm Independent Observer said:
I have repeatedly stated that Kiwisaver is our next big failure. Key concerns include:

The NZ marketplace simply doesn’t have the quantum of consumers to support the extensive number of Kiwisaver offerings available. You don’t have to be Einstein to calculate that many of these schemes are currently running at a significant loss to their owners. This will present significant credibility issues for the industry over the next decade (and possibly loss of client funds unless the Trustees, Directors and watchdogs start being held accountable)

The New Zealand financial services industry is relatively new to the concept of [compulsory] superannuation savings. In most other jurisdictions, retirement savings are treated with the highest fiduciary care by the industry and Regulators alike – recognizing that this is the foundation to the industry’s prosperity. In New Zealand, we have already demonstrated a laissez-faire approach to compliance and management of these schemes and the hiccups that they have already encountered.

The New Zealand financial services industry simply doesn’t know what it doesn’t know – with much of the industry talent either doing it overseas, or maintaining a low profile. My observations of industry participants suggests that we’ll collectively keep on making the same mistakes, allowing under-resourced Regulators and jaundice industry spokespeople shape our future.

I could go on – although these are the primary challenges that spring to mind.
On 26 March 2010 at 6:33 pm Kimble said:
How can the closure of small KiwiSaver providers lead to the loss of investor funds? The investors aren't investing in the provider, the provider's shareholders are.
On 27 March 2010 at 7:57 am Independent Observer said:
Kimble: How would clients react to the closure of their Kiwisaver provider?

a. They wouldn't care, they would simply roll-over into the replacement Kiwisaver provider
b. They wouldn’t care; they would roll-over into a new Kiwisaver provider
c. They would be anxious about the accumulated superannuation, tentatively rolling their proceeds into a new Kiwisaver provider
d. They would be both anxious (see c) and concerned about the financial services industry... not really fully understanding much more than having their superannuation plans disrupted

Get it? The industry no longer has the luxury of being cavalier ("she'll be right") about Kiwisaver. We lost consumer confidence with Finance Companies, and are clawing our way back to earning the trust and respect of the investing community. Most clients are likely to answer ‘C’ or ‘D’ to the questions above, with many taking a renewed interest in their financial matters (by the way – this interest will accelerate in line with their accumulated nest-eggs).

The embryonic Kiwisaver manufacturing environment at the moment is, at best a poorly run collection of investment-minded folks trying to make a buck out of gathering drip-feed assets. Most of the providers have poor compliance and governance, with many operating from little more than a spreadsheet. Whilst institutions have invested heavily into this space, the majority of providers simply don’t have the resources or the expertise to efficiently manage Kiwisaver programs… relying on the false hope that they will somehow manage to accumulate sufficient market share to make them profitable. As this hope of profitability becomes commercial reality, many of the providers will abandon their Kiwisaver ventures (albeit that more will attempt to play games with the numbers to attract more interest), unsettling an already tentative relationship between the financial services industry and consumers.

Before responding I strongly encourage you to talk with your clients and recalibrate your view of Kiwisaver through their eyes (not the eyes of the industry).
On 27 March 2010 at 5:43 pm Kimble said:
Ok. But how could investors lose their funds if their scheme closes?
On 28 March 2010 at 6:14 am Independent Observer said:
Kimble - your response is indicative of the industry. Good luck
On 29 March 2010 at 9:54 am Kimble said:
IO your responses have had nothing to do with my question. If a KiwiSaver provider fails, the money in the funds will stay in the funds. It cannot be used to bail them out. The investors would just be transfered to another scheme and for most this would be a seemless transition.

The schemes closure wont affect the value of the underlying investments. I think it is important that people understand that.

Sure if there is fraud and theft thats a different story, but it looks as if what you are saying is that even in the absence of fraud a schemes closure is likely to lead to a loss for investors. Which is wrong.
On 1 April 2010 at 10:47 am Anthony Edmonds said:
At an industry level GIPS is the right answer, as it has been designed to take into account all the problems like those outlined below.

At an investor level the right answer is that: “past performance tells us nothing about the future”. This is especially important in New Zealand because of the factors and quirks outlined below.

My pick is that stakeholders will get confused by wanting providers to calculate the return that the actual investors get (taking into account things like fees and tax). For performance comparison purposes this is pretty much a meaningless exercise, because of how tax works in New Zealand.

To demonstrate this (and support the recommendations made earlier regarding GIPs coupled with ignoring past performance), let’s compare a 10% gross return from a New Zealand share fund, with a 10% gross return from a New Zealand fixed interest fund (both off which are PIE funds). Because the New Zealand share fund only pays tax on dividend income, for an investor with a PIR of 30% the net return is likely to be around 8.2% (assuming a dividend income of 6%). In contrast the same investor would only receive a net return of approximately 7% from the New Zealand fixed interest fund.

The difference comes because (under PIE) different components of the return are treated differently for tax purposes. Comparing two diversified funds’ investment performance requires investors to make an assumption that the asset mix of both funds is the same – which is (probably) flawed at the outset.

Also – the translation of performance from gross to net will be a function of each investor’s PIR rate – coupled with the sources of the actual underlying return.

A further area of complexity comes when you contemplate that the FDR tax rules are flawed when it comes to global share funds that also hold currency-hedging contracts. This reflects the mismatch in the way that the hedging contracts are taxed (being on an accruals basis), and how the impact of movements in currency on the underlying shares is taxed (being the FDR method). The complexity relating to this increases reflecting the fact that tax is calculated at the investor level – so any attempt to fix this tends to only work for one group of investors (e.g. you can fix this for those investors on a PIR of 30% - but this solution then doesn’t work for investors on other PIRs).

As I said at the outset – for the industry GIPs is the right answer (it is sort of odd that NZ investment managers haven’t formally adopted GIPs). For the investors, remember that past performance tells you nothing about the future. If you want to compare two funds then you actually need to get in and do proper research. The last place you should start is by looking at their historical returns. Maybe having a healthy mistrust of the validity of past performance numbers at least helps to drive the right behaviours by the actual investors.
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