THE Employees Provident Fund’s (EPF) dividend rates for the past few years have been declining to levels that are below the rates enjoyed during a 15-year golden period from 1980 to 1994 with annual returns of eight to 8.5 per cent.
Given the current unfavourable investment environment, the rate for this year is expected to be lower than the 5 per cent dividend declared for 2001.
The low interest rate regime of the last 3 years and a lacklustre share market are affecting EPF’s income. As a result, gross income (unaudited) for the first nine months of this year stood at RM7.9 billion, which on an annualised basis, will not translate into a dividend rate higher than the previous year’s. The investment climate for third quarter was not much better.
The investment outlook for the EPF in the next three years, like most other investors, is very much dependent on the global and domestic economic performance.
While the domestic outlook is projected to be on the bullish side, global developments in the Middle East, the sluggish US economy and the terrorist issue can have a dampening impact on full domestic recovery and ultimately, on the EPF’s investment income.
Although there have been predictions that the local stock market may see an upswing in the next six months, its positive impact will have to be studied in the light of how high the prices will go up as well as how long the upswing will sustain in the face of the global uncertainties.
Lower interest from new MGS
On the micro side, the traditionally strong income from investments in Malaysian Government Securities (MGS) could prove to be a challenge, as a sizeable amount of high yielding MGS papers will mature within the next three years. New MGS papers will command lower interest rates to reflect the current interest rate regime, thus adversely affecting income for the years to come.
In general, the news on the investment front in the immediate and near term period is not so encouraging.
What is the EPF doing to ensure that its members derive the maximum benefits from its investment activities, especially so in such a challenging environment?
Towards this goal, the EPF faces three major challenges in investment. The first challenge is to ensure that members continue to get real dividend for their funds, irrespective of the investment environment. The dividend rate should be higher than the inflation rate for members’ savings to be enhanced.
The second challenge is to manage the risk during this time of uncertainty so that the funds of members do not shrink due to unwise investment decisions while the third is to reduce the operating cost in order that the full benefits of investment gains are passed on to members.
Real dividend rate
That the EPF has been able to declare a dividend rate higher than the inflation rate year after year means that the real value of members’ fund has increased and that the EPF’s goal of enhancing the value of savings has been met.
While the EPF would like to declare high dividends, this is not always possible as investment income on which the dividend rate is calculated, is very much dependent on the prevailing investment environment.
The EPF has in place several measures to ensure that collectively, its investments bring in real returns to benefit the members through a proper asset allocation.
The asset allocation is based on the investment procedures and approved guidelines by the EPF’s Investment Panel whose members are drawn from the public and private sectors.
It is a prudent spread between fixed income instruments such as MGS, loans and money market instruments and the higher risk equity market.
The spread is essential to ensure that members continue to get reasonable income should returns from a particular class of investment fall below expectation due to market circumstances.
Managing the investment risk
Recognising that the funds are old age savings, the EPF tends to be risk averse and instead opts for low/no risk instruments such as MGS, money market instruments and loans and bonds. Investments in these fixed income instruments constitute about 75 per cent of the fund’s total portfolio.
Investment in equity, considered more risky than the other instruments, is looked at from a long-term point of view and is meant to provide higher returns than the other instruments. Because of the higher risk-return profile, investment in this instrument is capped at current level of 25 per cent of the total portfolio.
The second task is to make investment decisions based on all available information. In this context, the EPF has beefed up its investment research and investment division through the recruitment of more specialists including analysts, risk management personnel, researchers and investment professionals.
The addition of these specialists will also enable the department to consider new investment areas available in the domestic capital market and, upon approval, in the international market, in a bid to improve yield.
The third task is to manage risk inherent in all the EPF’s investments. Towards this goal, the department has set up a risk management unit to review the Fund’s exposure to risk.
In addition to these measures, the EPF also tracks the performance of companies in which it has a stake through feedback from analyst and fund managers.
EPF personnel also make company visits to explore the companies’ financial health, future prospects and issues pertaining to corporate governance as well as participate in company annual general meetings and extraordinary general meetings.
Cutting operating cost
The EPF has been engaged in trimming the cost of its investments to ensure that members enjoy higher yields. One example is the reduction in the management fee of its external fund managers. Brokerage fees have also been negotiated lower.
In addition, a number of cost saving measures have also been put in place.
These tasks, given the prevailing investment environment, may not dramatically improve the dividend rate in the short term but will contribute immensely to the protection of the interest of members.
Roslan A. Ghaffar is deputy chief executive officer (Investment) at EPF
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