GLOBAL - Private pensions across the world lost $5.4trn (€4.2trn) by the end of December 2008, up from $5trn in October, driven mainly by returns on US pension funds,  the Organisation for Economic Cooperation and Development (OECD) has revealed.

At the launch of the first edition of the OECD Private Pensions Outlook 2008, Juan Yermo, principal administrator for private pensions in the financial affairs division at OECD, confirmed the financial crisis had led to an average pension fund return of -23%, albeit long-term pension fund performance - over 15 years - was “still very positive”.

That said, the OECD noted the greatest concerns resulting from the economic turmoil are sponsor solvency in defined benefit (DB) plans and the impact on larger, more mature defined contribution (DC) systems, such as the US and Australia, where there are a number of older workers with high equity exposure in their accounts.

Findings from the research also showed the funding level of DB schemes across the OECD has “dropped from already low levels”, with all of the schemes sampled classed as underfunded, with an average of -25% of liabilities, although it admitted because some countries operate book reserve systems and/or offer insolvency protection, figures do not show “the whole picture”.

Recommendations for policy measures put forward by the OECD included the introduction of ‘counter-cyclical’ funding or solvency rules for DB schemes - as funds “need to have better buffers in the good times and more flexibility in market turmoil”.

The OECD said the need for a better design of default investment strategies in DC plans, with the suggestion governments should do more to promote the use of lifecycle approaches and guarantee products such as annuities.

Overall, Yermo suggested there is a need for further expansion of private pension provision, although he acknowledged “it might seem counter-intuitive” given the economic conditions, because public pensions remain unsustainable and in some cases are “in a much worse position” than before the financial crisis.

The report also argued public pension reserve funds (PPRF) such as Ireland’s National Pension Reserve Fund (NPRF), or the Swedish national pension funds, AP1-4 and AP6, have an important role to play in protecting Pay-As-You-Go (PAYG) systems from market shocks.

Figures showed the total assets in PPRF’s covered by the report - excluding those classified as sovereign wealth funds (SWFs) such as the Norway Government Pension Fund - Global - had increased to $4.3trn in 2007 from $2.6trn in 2001.

The OECD also revealed PPRFs “embarked on a major reallocation towards riskier assets between 2001 and 2007”, more so than normal pension funds, the result being that the Irish NPRF was the worst performer in 2008 as it had the highest equity allocation.

However, Yermo suggested pension funds and regulators are likely to wait for more clarity on the financial situation before making any big decisions, as schemes are unlikely to make any significant asset allocation changes in the “middle of the crisis”, and it is expected that “asset allocation will be set for a few years” as the OECD claimed it has not seen any sudden changes.

Instead, he suggested pension funds are approaching risk reduction in terms of “flexibility in plan design rather than asset allocation” on both the contribution and benefits side, which could be seen to be driven in countries such as the Netherlands, Norway and Denmark through a regulatory focus on solvency levels.

Additional research from the report, which will be published every two years, revealed while the proportion of employed people covered by voluntary private pensions is more than 50%, this is unevenly distributed with younger people and those on lower incomes less likely to have savings.

The report also noted there are 10 countries within the OECD where employees are not getting a replacement rate of more than 60% - based on combined public and private pension benefits - and if the typical replacement rate is assumed to be between 70-75% of final salary then even more countries, including Ireland, Germany, France and DC schemes in the UK, do not reach that level.

Research into costs and fees of running private pensions revealed countries with many small pension funds, such as the UK, have higher operating costs, so the OECD suggested this could be reduced through consolidation of occupational schemes, or centralising account management in countries with personal account systems.

The findings also highlighted a wide variety of administrative fees paid by plan members in DC systems, ranging from about 2% of assets under management in Hungary, to less than 0.5% in Sweden.

Pablo Antolin-Nicolas, principal economist for private pensions at the OECD, said: “Fees and costs are a very important issue and the wide variety of fees charged across countries show that something can be done to address this.”

Figures showed the wide differences in fees - up to 1.5 percentage points - can result in large benefit gaps, and the report claimed that if Hungarian pension funds were to charge the same fees as the Swedish PPM system the benefits would be 30% higher.

As a result the OECD recommended, “structural changes in the way private pensions are managed, regulated and promoted”, and also calls for the adoption of policy actions “in line with the long-term horizon of private pensions”.

If you have any comments you would like to add to this or any other story, contact Nyree Stewart on + 44 (0)20 7261 4618 or email nyree.stewart@ipe.com

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