Pension investment and capital market development

David Tuesta

OECD/IOPS Global Forum on Private Pensions

November 15th 2007

Beijing

2

1. The importance of macroeconomics

3

-Macroeconomics is a “fundamental factor”.

- Sound fiscal and monetary policies. The design of

macroeconomic institutions (rules).

- Reduction of financial volatility

- An important step to develop a “virtuous circle” with capital

markets and pension investments

4

2. The importance of Capital Market Liberalization and

its interaction with Pension Investments

5

- Gradual liberalization of financial markets as a key variable

for delivering higher returns and lower risks.

- These gradual advances will depend on:

. Macroeconomic institutions.

. Permanent monitoring of financial markets.

. Regulation, transparency and market failures.

. Regulators learning and experience

- Positive experience in Latin America.

6

3. QAR, PPR, Maximums and Minimums

7

- How well developed is your financial market?

- The importance to have some quantitative limits when capital

markets is not well developed.

- Maximum limits in Latin America.

- Other factors that influence limits

- PPR as a ideal scenario for clever regulation

8

QAR, Argentina

Productive operations, minimum requirement of 5%

Government debt could be extended to 100% under especial conditions.

10%

10%

10%

10%

10%

20%

20%

20%

20%

20%

20%

30%

30%

40%

40%

40%

50%

50%

0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 55%

PUBLIC FOREIGN INSTRUMENTS

FOREIGN INSTRUMENTS

NEGOTIABLE CONTRACT AND FUTURE OPTIONS

DIRECT INVETMENT FUND

STRUCTURED FIDUICIARY OPERTIONS

SHORT RUN NEGOTIABLE OPERATIONS( 2 )

NEGOTIABLE OPERATION PRIVATIZED FIRMS

CORPORATE PRIVATIZED SHARES

COMMON FUNDS

OTHER FIDUICIARIE OPERATIONS

PRODDUCTIVE OPERATIONS

INFRAESTRCUCTURE

GOVERNMENT DEBT

PLAZO FIJO 2

LONG RUN OBLIGATIONS( 2 )

CONVERTIBLE LIABILITIES

MORTGAGE

NATIONAL PUBLIC CREDIT OPERATIONS1

CORPORATIVE SHARES

9

Chile and the Comisión Marcel proposals:

• To reduce investment limits and simplify regulation

• To create an investment council to provide more flexibility

• To foster more transparency

Main charcteristics:

1. Proposals to reduce limits

2. Proposals to allow more foreign investment:

• Relaxing foreign limits / foreign assets

• Derivatives

3. Proposals of risk managment

• Possibility of market risk indicators.

4. Proposal toward self-regulation and more transparency

10

4. Latin America and investment choice in mandatory

individual account pension system

11

- The importance to foster choice in mandatory individual

account pension system: efficiency, better and consistent

returns, lower risks, regulation.

- Some market failures and structural factors that limits

efficient choice and active participation. The case of Latin

America.

12

Mexico 20085 multifunds

Colombia ?

Chile 20025 multifunds

Peru 20053 multifunds

Argentina ?

Movement toward multifunds:

Expected

returnExpected risk

Fund 1

Conservativelow low

Fund 2

Balancedmedium moderate

Fund 3

Growthhigh high

Number of multifunds in Peru• Risk and preferences• Diversification• Regulatory lighten up

Some countries have introduced different alternatives to diversify their portfolios by introducing “multiples fund” schemes that offer different combinations of assets

that balance risk and return.

Regulation leaves the decision to the affiliate, although they are some restrictions

13

Multifunds: limits and participation

Max Min

A 80% 40% 20,849 21%

Chile B 60% 25% 22,788 23%

C 40% 15% 43,290 44%

D 20% 5% 10,118 10%

E 0% 0% 1,376 1%

98,421

Perú 3 80% 25% 2,686 14%

2 45% 15% 15,062 81%

1 10% 0% 942 5%

18,690

Mexico 2 15% 656 90%

1 0% 72 10%

728

%Limits in sharesCountry Multifund Mill US$

14

Source: SAFP. 2007, Agosto

Chile´s multifund: Active choice and the default option

88%77% 73% 69% 68%

12%20% 23% 27% 31% 32%

80%

0%

25%

50%

75%

100%

2002 2003 2004 2005 2006 2007

Defalut option Active choice

15

5. The importance to deliver better returns

16

- Returns as a fundamental determinant for delivering better

pensions.

- Gradual liberalization of capital markets is necessary in

order to pursue that goal.

- A more liberalized market will likely provide:

. A more diversified portfolio

. Less volatility in the long run

. More alternatives to develop financial instruments

17

(from 6 % to 7%)

(from 3 % to 4%)

(from10 % to11%)

(from 65 to 66 years- old)

(from 35% to 36%)

(froom 14 to 15 years-old)

Effect on Pensions

-7%

3%

3%

10%

18%

24%

-10% 0% 10% 20% 30%

Years of living

Density of contribution

Age for retirement

Contribution rate

Productivity

Return

18

Portfolio structure 80s

0%

20%

40%

60%

80%

100%

Mexico Peru Costa Rica Ecuador Chile

Government MortageLong term deposits SharesReal state Others

Portfolio structure 2006

0%

20%

40%

60%

80%

100%

El Salvador Bolivia Mexico Argentina Uruguay Colombia Peru Chile

Others

Foreign investment

Private and investment funds

Shares

Non financial institutions

Financial institutions

Public debt

19

Pensions Funds and National Savings

Source:

BBVA, Schmidth-Hebbel (2003), Moron

and carranza (2004)

According to BBVA (2005), a 10 % increase in pension fund stocks increases the national savings rate by 0.4%.

For the Chilean system, according to Corbo and Schmidt-Hebbel (2003), the reform implies an increase in national savings rate between 1 and 5 % of GDP.

For the Peruvian system, according to Moron y Carranza (2004), the reform produces a 1% increase in economic growth and between 5-10% in national savings.

ARG94

ARG02

CHI81

CHI85

CHI90CHI95

CHI00CHI03

-12,0

-10,0

-8,0

-6,0

-4,0

-2,0

0,0

2,0

4,0

6,0

-30,0 -15,0 0,0 15,0 30,0 45,0 60,0

*Variables ortogonales a la tasa de dependencia demográfica y el grado de educación.

National savingsrate

(as a % of GDP)

PF Stock (as a % of GDP)

Observed/. Forcasted

ARG94

ARG02

CHI81

CHI85

CHI90CHI95

CHI00CHI03

-12,0

-10,0

-8,0

-6,0

-4,0

-2,0

0,0

2,0

4,0

6,0

-30,0 -15,0 0,0 15,0 30,0 45,0 60,0

*Variables ortogonales a la tasa de dependencia demográfica y el grado de educación.

National savingsrate

(as a % of GDP)

PF Stock (as a % of GDP)

Observed/. Forcasted

20

Pension Funds in Reformed Systems*

Source: FIAP

*Chile, Mexico, Colombia, Argentina and Peru

Million US$

Chile

Perú

Colombia

Argentina México0%

10%

20%

30%

40%

50%

60%

70%

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

2001

2003

2005

0

50,000

100,000

150,000

200,000

250,000

1981

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

% GDP

21

Portfolio structure 80s

0%

20%

40%

60%

80%

100%

Mexico Peru Costa Rica Ecuador Chile

Government MortageLong term deposits SharesReal state Others

Portfolio structure 2006

0%

20%

40%

60%

80%

100%

El Salvador Bolivia Mexico Argentina Uruguay Colombia Peru Chile

Others

Foreign investment

Private and investment funds

Shares

Non financial institutions

Financial institutions

Public debt

22

Pensions Funds and National Savings

Source:

BBVA, Schmidth-Hebbel (2003), Moron

and carranza (2004)

According to BBVA (2005), a 10 % increase in pension fund stocks increases the national savings rate by 0.4%.

For the Chilean system, according to Corbo and Schmidt-Hebbel (2003), the reform implies an increase in national savings rate between 1 and 5 % of GDP.

For the Peruvian system, according to Moron y Carranza (2004), the reform produces a 1% increase in economic growth and between 5-10% in national savings.

ARG94

ARG02

CHI81

CHI85

CHI90CHI95

CHI00CHI03

-12,0

-10,0

-8,0

-6,0

-4,0

-2,0

0,0

2,0

4,0

6,0

-30,0 -15,0 0,0 15,0 30,0 45,0 60,0

*Variables ortogonales a la tasa de dependencia demográfica y el grado de educación.

National savingsrate

(as a % of GDP)

PF Stock (as a % of GDP)

Observed/. Forcasted

ARG94

ARG02

CHI81

CHI85

CHI90CHI95

CHI00CHI03

-12,0

-10,0

-8,0

-6,0

-4,0

-2,0

0,0

2,0

4,0

6,0

-30,0 -15,0 0,0 15,0 30,0 45,0 60,0

*Variables ortogonales a la tasa de dependencia demográfica y el grado de educación.

National savingsrate

(as a % of GDP)

PF Stock (as a % of GDP)

Observed/. Forcasted

23

Pension Funds in Reformed Systems*

Source: FIAP

*Chile, Mexico, Colombia, Argentina and Peru

Million US$

Chile

Perú

Colombia

Argentina México0%

10%

20%

30%

40%

50%

60%

70%

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

2001

2003

2005

0

50,000

100,000

150,000

200,000

250,000

1981

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

% GDP

24

Real return during the 80s

(% annual average)

Source: Mesa Lago (1998), World Bank (1994)

-10

0

10

20

30

40

Ene-0

5

Jun-0

5

Nov-0

5

Abr-

06

Sep-0

6

Feb-0

7

Argentina Chile Colombia México PerúReturn-40

-30

-20

-10

0

10

20

Chile Mexico Ecuador Costa Rica Peru

Real return 2005-2007

(% annual average)

OECD/IOPS Global Forum on Private Pensions

November 15th 2007

Beijing

Pension investment and capital market development

David Tuesta