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Guarantee worries

The introduction of industry-wide pension plans looks like scoring a first for Belgium in the European arena of occupational pensions – a quasi DC plan with an annual minimum guarantee of 3.25%.
Some would argue that this is not a DC plan at all. They may be right. Whatever it is: DB, DC or hybrid, the Belgian model could define the future of Europe’s mass occupational pensions market. Belgium already has a number of successful sector funds, such as Fonds de Pension Métal, the scheme for metal industry workers. Other major sectors are waiting in the wings for the Vandenbroucke law to give them status. The government certainly has ambition – aiming for two thirds of the population to be covered by sector funds, although privately conceding that half would be a reasonable expectation.
When finally introduced, these plans could in essence be either DC or DB with a career-smoothed average for everyone in the sector.
The crux issue, however, has been that question of guarantees – anathema to today’s investment industry!
This principle was rubber-stamped around a year ago by the government, and Henk Becqauert, cabinet adviser to Frank Vandenbroucke, the Belgian minister of social affairs and pensions believes the debate has matured: “The industry is now looking at solutions that don’t throw away these guarantees, but that limit their cost. There are, of course, some discussions on the 3.25% level because interest rates are very low at the moment, and I understand these concerns. But, on the other hand, I always say that the 3.25% is a long-term guarantee not a yearly one.”
Becquaert concedes the problem that worker mobility means that any long-term guarantee can actually be short-term because when workers change jobs they will be entitled to take their guaranteed pot with them.
This means that the capital has to be both liquid and safe. If there is significant worker movement in sectors, it could be that the guarantee has to be given after just two or three years.
“Companies are looking at how to limit these risks of mobility and I’m pretty sure that they will find a solution, “ says Becquaert.
“One solution is an agreement between pension institutions about taking over this guarantee, so they don’t have to transfer the actual money at the time of the move.
Becquaert says that he has been advised that in the long term the 3.25% guarantee is not a problem. And, in the socially oriented manner of the current Belgian government, he is keen that there could be a collective response to sharing this guarantee.
But the government is not naïve. “Of course, you have to take into account which institutions could be in this system. Pension funds that take a lot of risk would not be accepted. There are institutions that invest very professionally and diversify risk and there would need to be some standards of risk limitation.”
To deal with any possible pay-out default, Becquaert says the idea is being explored of creating a special fund that covers this end risk and to which every pension fund in the sector system would pay a small tariff.
“It seems that a similar system exists in Germany,” says Becquaert.
Furthermore, to alleviate the high risk to the system in its early years, the government is stipulating that if an employee transfers company or leaves the system in the first five years then they get a guarantee at the rate of inflation if this is lower than 3.25%.
Becquaert is not worried that the guarantee will prove onerous to employers: “There are many employers who already give this type of guarantee if they have a DB scheme. Of course there are problems in tough markets, but even without guarantees there are pension funds in trouble.”
The question that begs then is just who could gain from this potentially huge inflow of assets over time.
Certainly, in Belgium where there is a guarantee insurance companies have an advantage. Insurers are able to work within accounting frameworks that mean they don’t have to guarantee the total sum of any assets they hold. Pension funds using an investment manager do not have this accounting luxury. The assets held have to be marked to market, meaning that a guarantee is effectively made for each euro – a riskier scenario by far.
However, investment managers in Belgium are not despondent. They point out that asset managers could offer pension funds the same types of low risk portfolios as life insurers – say 80% bonds and 20% in equities.
And while they concede that insurers do have an advantage, they believe it is not insurmountable, pointing out that pension funds have relatively cheap access to the reinsurance market as well as a number of independent administration providers.

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