Historically, the Austrian pensions system, underpinned by a principle of investment and risk control by the employer, has pursued a ‘one-size-fits-all’ investment strategy, irrespective of the age and risk profile of members. As such, the pensions capital of both active employees and retirees has been managed as part of the same investment strategy.
This bundling together of members, regardless of their specific profile, has been problematic, says VBV Pensionskasse, but is compounded by the fact that regulatory actuarial conditions have also been identical for both active members and pensioners. These fundamental parameters implicit in running a pension fund are the interest rate calculation, known as ‘technical interest’ and actuarial surplus.
VBV defines the technical interest rate as the actual value that the pension fund must achieve during retirement period from agreed technical returns on investments to ensure consistent payments for the life of the pension. Generally, it says, a low interest rate in comparison to a higher one will result in a lower initial pension.
It defines actuarial surplus as the value of returns on investments, taking into account approved financial market controls and according to actuarial forecasts, which is allocated respectively to the actuarial reserves and equalisation fund. Any additional excess of this value is not assigned to the actuarial reserves, says VBV, but will be credited to the equalisation fund until the legal ceiling is reached.
The ‘one-size-fits-all’ practice of grouping together fully paid-up active members and retirees already claiming a pension in the same fund and under the same parameters without accounting for age and personal risk profile has, says VBV, produced an equally problematic one-sized result where the investment strategy and time horizon is not coordinated for individual members. VBV has therefore introduced a lifecycle-based investment solution.
Central to the fund’s new lifelong pensions model is the recognition that the optimal investment strategies for active members and pensioners are very different.
For the retiree, already claiming a pension, the focus is on guaranteeing benefits against losses incurred by inflation. This means that the value of pensions should rise moderately or at least not fall. To bring about an increase in real terms in the value of pensions, the fund depends partly on the over-performance of the technical interest. VBV says that, to achieve this, pension funds must adopt a defensive investment approach to prevent a fall in the value of pensions as a result of excessive volatility in investment returns.
When it comes to active members, however, an entirely different investment strategy is needed in view of their demographic profile. With the age of active pension fund members largely under 40, the investment horizon is obviously very different to that of pensioners, stretching over an average of some 40 years. VBV says that this prolonged timescale justifies a completely different investment approach. The investment strategy should be dynamic with a large equity portfolio. The fund says that this is all the more so given that historic evidence shows that fluctuations produced by this approach have been shown to balance out in the long term.
Traditionally, Austrian pension funds have therefore been caught between something of the proverbial rock and a hard place with respect to following optimal investment strategies for their active members and pensioners. In respect to the different investment strategy requirements of active members and retirees, it has driven all pension funds to attempt to find some middle ground over the last decade. Yet investment strategies for all young active members and pensions have only been optimised under certain conditions.
Generally, says VBV, for these providers, the employer determines the choice of asset manager and corresponding investment strategy with no possible optimising of investment horizons and all members pensioners have their assets managed by the same management company for the life of the pension. This is a significant contrast to VBV’s new investment approach.
Membership of the VBV lifelong pension model is offered to every new VBV pension fund client. This new pension fund consists of three different asset and risk management companies, which offer a choice of different investment strategies. At the heart of the lifelong model is a range of investment options, where choice resides exclusively with members.
Every new member can opt, through a choice of the three asset and risk management companies, for the ideal investment approach for their assets, to correspond with their own particular personal risk profile. Furthermore, every existing member can decide to transfer their assets, for the remainder of their membership to one of the investment strategies most suited to their optimal risk management.
Highlights and achievements
As one of Austria’s leading pension funds following the merger of BVP and VPK, VBV Pensionskasse believes its lifelong pensions model provides a truly revolutionary solution in tailoring the different age and risk profiles of the fund’s members to their investment needs.
Unlike old and other providers, members are able to optimise their investment horizons through a choice of three asset and risk management companies, and can even decide the best way to strengthen their assets. Optimisation is also ensured by the members’ ability to switch assets during the lifespan of the pension.
As such, VBV believes that VBV’s lifelong pensions approach gives its new pension fund members a radically different perspective of their occupational retirement provision. With the core statute of any pension fund to provide lifelong pensions cover, the fund may well have provided the Austrian pension fund industry with the shape of things to come.