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INVESTMENT POLICY STATEMENT

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In BRIEF

Annexure B to the Financial Sector Conduct Authority Circular
PF 130 (PF 130), published in 2007, provides comprehensive good governance guideline for a retirement fund’s Investment Policy Statement (IPS).

These guidelines include:

  • The purpose and scope of the IPS
  • Preparing the IPS
  • Essential elements of the IPS
  • Risk management
  • Voting rights
  • Asset manager mandates
  • Communication


The guidelines set out in PF130 contain the minimum standards and highlight specific issues that retirement fund boards of trustees (boards) should consider when drafting an IPS. The guidelines should be adapted by each retirement fund board to suit their particular obligations, objectives and all other factors that may affect the solvency and funding of their fund, and its ability to meet its primary obligation to its members – that being to invest their retirement savings in a risk-appropriate manner such that their chances of a comfortable retirement are optimised. The board must also be in a position to explain any deviations from the IPS. The IPS should be based on the standards that a reasonable person would apply to the investment portfolio of a fund – the “prudent person approach”.
PF 130 also recommends that some elements of the IPS guidelines should be included in investment manager mandates where appropriate.


The purpose of formulating an IPS is to:

  • Communicate the investment philosophy and strategy to the fund’s members and beneficiaries, as well as service providers to the fund, such as fund managers and consultants;
  • Describe the investment objectives and the overall risk philosophy;
  • Define how investment managers will be selected, remunerated and, where necessary, replaced in a manner that encourages compliance to the IPS goals and objectives;
  • Communicate the investment strategy for evaluation purposes.


A fund’s IPS must address the following issues (in conjunction with legislative and regulatory compliance), namely:

  • Members’ retirement needs are first and foremost
  • Categories of investments
  • Diversification of investments to mitigate risk
  • The allocation of assets and the expected rate of return
  • The liquidity requirements
  • Voting rights attached to the investments
  • Valuation procedures for investments not publicly traded
  • Related party transactions


Investment policy and procedures

In advance of determining the fund’s investment policy, it is essential that the board has first identified the profile of its members. This will enable the board to identify what portion of funds will be required for short, medium- and long-term investments and the risk profile attached to each category of beneficiary (e.g. those retiring in the short term will require low-risk, high-liquidity investment options). Given that this is an essential element of determining a fund’s investment policy, the board should, where appropriate, obtain the advice and guidance of independent consultants and actuaries. Care must be taken that any advice obtained is free from conflicts of interest.


When determining an appropriate IPS, boards should consider the following aspects:

  • Current investments
  • Degree of risk tolerance the members wish to sustain
  • Volatility of investments
  • Current and future liabilities of the fund, including obligations to its members
  • Structure of the pension plan (e.g. defined benefit or defined contribution)
  • Liquidity and cash flow requirements
  • Profiles of the members


Annual review of the IPS

The IPS should be reviewed at least annually to ensure that any changes in economic conditions or obligations of the fund are accounted for. There should also be procedures in place to monitor compliance with the IPS.


Essential elements of the IPS

  1. Asset mix and rate of return expectations
  • The IPS should stipulate the following:
  • Expected rate of return of the portfolio;
  • Anticipated volatility of the rate of returns, setting mitigating techniques;
  • Timeframe of the expected returns; and
  • Monitoring of performance against the benchmarks and targets (and actions the board will take if the stipulated targets are not met).

2. Categories of investments
In order to protect the fund from investments that may be in conflict with the fund’s risk profile, limits should be placed on the range of authorised investments.

3. Diversification
Fund investments should build a portfolio that meets the needs of the fund and avoids the concentration of investments in any particular market sector. The risk of capital loss can be reduced through investing in diverse asset types, industries and geographic regions. A balance between the mitigation of risk and the related costs for diversification must be maintained. Investment vehicles that hold a diverse portfolio are one example of a low-cost diversification strategy. (e.g. Balanced Collective Investment Scheme, market index trackers)

4. Liquidity requirements
A fund should have a clear idea of its cash flow requirements. Investments should therefore be made taking into account the fund’s cash flow needs in the coming year to avoid having to liquidate medium- or long-term investments to cover short-term cash flow requirements.


PF 130 urges extreme care and caution when considering the following fund actions an IPS should also address:

5. Pledging and borrowing of assets

In order to protect the fund from placing its investments at
unnecessary risk. The board should manage these risks using clear risk limits and procedures. These should be established for the borrowing or pledging of fund assets – and these should be closely monitored. It should also be established whether such activities are authorised in terms of the fund’s rules or subject to any regulatory or statutory restrictions.
The IPS should clearly set out the circumstances under which funds may be lent against the retirement fund, for example: that of members accessing residential housing loans against their retirement benefit [PFA(19(5))]. Such policies and procedures should clearly explain the circumstances under which such lending may occur.

6. Management fees and compensation

Management fees must be taken into account when mandating asset managers. Payment of fees for risk-adjusted investment returns should be linked to clearly defined responsibilities. There should also be mechanisms in place to ensure proper monitoring, including the relevant checks and balances to alert the board to any significant losses and deviations from authorised policy. Costs and fees paid by the fund to asset managers and administrators should be subject to full disclosure and transparency, and regularly communicated to the fund’s members.

7. Risk management
The boards’ responsibility is to manage and, where possible, mitigate the investment risks (Eg. credit, investment, market, equity, currency, interest rate, inflation, ESG, actuarial and regulatory (prescribed assets)) to which the fund is exposed. For it to perform this function effectively it needs to be aware of the types of risk to which a fund can be exposed. From time to time it may be necessary to appoint an independent service provider to assess the effectiveness of governance structures, mandates, terms of reference used etc.

8. Voting rights
The board of a fund should formulate and develop appropriate voting policies and incorporate these in their mandates to the asset managers, including the monitoring of and reporting on voting. The proxy voting policy should be disclosed to the members, along with the steps taken by the board of the fund to monitor the effective implementation of said policy by the fund’s asset managers.

9. General fund reporting to members, pensioners and beneficiaries

Retirement funds are governed by the Penson Funds Act, 1956, (PFA) and PF 130. PF 130 is not legislated, but rather comprises a set of voluntary principles and standards which are considered best practice for good governance of retirement funds. PF 130 requires all retirement funds to have a communication policy for the disclosure of fund information to members and beneficiaries. It is advised that the communication policy addresses, but is not limited to, fund operations, administration, investment performance (including investment fees), incurred by the fund. Communication to pension fund members, pensioners and beneficiaries should be informative, transparent, fair and display accountability and be disclosed in easily understandable launguage.

10. Monitoring and reporting on IPS

  • The IPS should be reviewed regularly to ensure that it continues to meet the objectives of the fund and any deviation or changes should be explained to the members;
  • Effective and regular communication between the board, the members of the fund, and the fund’s asset managers is essential, not only for the purposes of transparency and disclosure but also to establish proper and regular monitoring of the fund performance, as well as adherence to the term of the mandate and IPS;
  • The IPS should be disclosed to fund members, pensioners, beneficiaries, investment managers and relevant regulatory authorities;
  • There should be regular reporting to the members, pensioners, and beneficiaries – preferably quarterly – in a manner and form which is easily understood, on relevant performance, risk/return and fund matters, especially relating to any changes, that they may deem appropriate.

Most recent FSCA 2019 Guidance on communicating investment decisions with members

In June 2019 the FSCA released a Guidance Note for Retirement Funds relating to the sustainability of investments and assets in the context of a retirement fund’s IPS. The Guidance Note is intended to act as a guide to retirement funds to ensure compliance with Regulation 28(2)(b) of the regulations to the PFA. Of particular importance to this section is that it is intended to provide retirement funds with guidance on the content of some of the essential aspects of an IPS and the manner in which that content is disclosed by pension funds.

The section on Disclosure and Provision of Information to Stakeholders point 5.1 a – c stipulates that all funds are encouraged to:

  1. Make their IPS, or a summarised version thereof, available on request and at no cost to each member;
  2. Make a copy of their IPS, as well as information relating to the sustainability of investments and assets in the context of a retirement fund’s IPS, available on the fund’s website. A fund’s investment policy should be accessible to all persons of the public, whether a member of the fund or not; and
  3. Provide a copy or inform their stakeholders of the fund’s IPS and any changes thereto on an annual basis. In the event of union representation as members of the fund, this communication should preferably be directed to the designated union representative.

 

REFERENCES:

1. Annexure B to Circular PF 130; Available: www.fsca.co.za

https://www.fsca.co.za/Regulatory%20Frameworks/Temp/PF%20Circular%20130%20AnnxB.pdf

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