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Smart tax reforms look likely to boost Turkey's small supplementary pension sector, which is predicted to reach €100bn by 2023, according to Reeta Paakkinen

New regulations and a new tax regime for Turkey's small supplementary pensions sector will come into force at the end of 2012. Although the finer details of the reforms are not yet public, what is known is that the government will contribute 25% on top of the pension payments of all participants in the system. And, in case of an early withdrawal from the system, a pension saver will pay a lower withholding tax than before.

When exiting the system during the first 10 years, a pension saver in Turkey used to be charged a whopping 15% withholding tax for accumulated funds, a fee widely criticised for being too hefty.

Under the new regime, the withholding tax will be calculated solely on the basis of the returns accumulated. Whereas the old system favoured payroll employees by making the tax advantage available only to them, under the new system the state will contribute to every pension saver's account, regardless of employment status. Investment constraints will be relaxed as well.

The reforms will help to make the system a more attractive medium-term investment tool in a country where only 2.8m of the 75m residents have a private pension plan. Most of Turkey's pension savers live in bigger cities in western Turkey, with Istanbul and the Marmara region leading. At present, the private pensions market in Turkey consists of 17 companies managing 165 funds.

Ibrahim Halil Çanakci, the under secretary of the treasury, notes that the reform will expand Turkey's private pension system and thus tackle the country's savings problem. Turkey's domestic savings ratio is currently estimated to be nearly 12% of the national income. "Despite uncertainties felt intensively across the world, Turkey made substantial economic growth [estimated at 7.5%] in 2011. However, the downturn in national savings leads to utilisation of more foreign resources for investments. Our efforts to improve the individual pension system are playing an important role in the measures aimed at increasing savings," he says.

Erhan Adali, chief executive officer of the €1.18bn Garanti Pension, believes the tax credit reform will have a notable impact on the size of pension funds in Turkey. "We are very pleased with the changes. In particular, the government contribution of 25% to all participants is quite astonishing. The reform will definitely raise the demand for private pension plans. Our estimate is that the number of new participants will increase by 50%. However, the impact of the reform will be more obvious only after this year. In 2012, we expect the system to reach an asset volume of TRY18.6bn (€8bn)," Adali said.

Turkish pension firms managed assets worth TRY16.3bn (€7.05bn) in May 2012. Industry players believe that instead of reaching an asset volume of €28bn by the end of 2018, as the Turkish treasury forecast earlier, the assets under management by the local pension sector are likely to exceed €100bn by the end of 2023.

In the medium term, the Turkish government is expected to create a mandatory severance payments saving system for local companies and to encourage transfer of funds from foundations to a pension system. The local pensions industry would also like to see a compulsory second pillar.

At the moment, only 23.6% of existing pension plans are corporate-originated. Gökhan Özüm, head of strategic planning at Garanti Pension, believes launching second pillar pensions would solve Turkey's savings problem. "The second pillar is inevitable for a healthy and balanced pension system. Not only would it enable Turkish citizens to retire comfortably, but it would also strengthen the economy by increasing the level of savings. Markets would gain depth through higher accumulation of funds," he says.

Sarper Evren, chief financial officer at €377m ING Emeklilik, agrees: "Portfolio managers of private pension funds, could and should, also manage second pillar funds. Market penetration in private pensions remains low in Turkey, only 1.1% of GDP in 2010. This means huge growth potential."

Portfolios evolve
Private pension companies in Turkey are in the process of adding new investment tools to their fund and increasing their exposure to the Istanbul bourse. Turkish mutual pension funds, launched in 2003, are still, by and large, invested in Turkish government bonds and bills (60.19%). Stocks make 12.09% of the average portfolio, followed by reverse repo (11.88%). Money markets make 0.49% and foreign securities only 0.84%. The remaining 14.51% is invested in a variety of other investment tools.

Garanti Pension's Özüm says that Turkish pension funds focus heavily on fixed income because investors have an exaggerated level of risk aversion. "Historic data show that a healthy portion of stocks increase investment returns in the long run. But investors here still remember the economic crisis Turkey experienced in 2001," he says. "Equity exposure among Turkish investors, however, needs to increase and there are already indications in the market that a change is happening. We expect pension funds' equity exposure to reach 20% in the medium term."

Evren of ING Emeklilik notes that exposure to international equities among Turkish pension firms is even more limited: "This is because emerging market equities, including Turkey, tend to perform better than the equities of developed markets. That makes investing outside Turkey less attractive. It is also quite a new thing for pension funds to invest in foreign stocks, many portfolio managers here do not find it appealing."

Burak Sayin, senior manager at €1.14bn Yapi Kredi Emeklilik, agrees on the conservatism of local investors and notes that despite this, several funds investing in international stocks have been recently created by Turkish pension funds. Yapi Kredi Emeklilik, for example, launched an international technology equity fund in the first quarter of 2012.

Local portfolio managers started to shift their equity investments to government and corporate bonds and bills after the second quarter of 2011, due to expected downturn in global stock markets and the increase in short and medium-term bond rates, says Evren. "On the global stock market side, the negative macroeconomic data, especially from the US, alerted markets to a double-dip in 2011. Turkey was very much affected by the downward trend in global markets... Although general elections in Turkey were perceived as leading to more political stability and confidence last year, the Istanbul bourse did not show the expected increase because there was uncertainty about government financing policies of an excessive current account deficit and because the central bank's monetary policy was unclear."

In 2012, local pension companies are also planning to launch a variety of new investment tools. ING plans to start investing in precious metal funds and working with ‘interest-free' Turkish lira bank deposits following Islamic finance principles. "We will also increase our corporate bond investments by banking sector bonds. This will allow us to be more flexible in trading decisions while maximising target returns," Evren said.

Garanti Pension, on the other hand, plans various launches. "We are interested in international bonds and stock funds, and with the new legislation, gold or precious metal-denominated funds. We believe also that guaranteed funds will be the next generation of funds," Özüm said.

Yapi Kredi Emeklilik is also planning to set a gold and precious metals fund. "We are planning to launch gold and precious metals pension funds in order to offer an alternative investment instrument to our customers," Sayin said.

Garanti Pension's Özüm believes Turkish equities will yield the best returns of all asset classes in 2012. "So far this year, Turkish stocks have pulled in returns varying between 15 and 20%," Özüm said. "At the same time European economies are in trouble and local and international investors have limited options for investment," he added.

Evren, on the other hand, expects bonds and bills - both government and banking sector - to perform better than equities over the remaining quarters of 2012. "But if the Fed applies another quantitative easing in markets, the expanded liquidity will probably boost ISE-100 performance like any other emerging equity markets," he concludes.

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