Dutch pension funds back reform program

High-profile Dutch pension funds and their service providers have come out in support of an agreement to radically reform the country’s pension system.

ABP, the Netherlands’ biggest pension fund, and its investment arm, APG, both supported the reform measures that were part of an agreement reached this month by the Dutch Government, some unions and employers.

Dutch pension administrator PGGM – which manages the assets of five Dutch pension funds with combined assets of $151 billion and 2.3 million members – also put its weight behind the reforms.

ABP vice chairman Xander den Uyl said the $300 billion fund strongly supported the reforms because it allowed more freedom for funds to choose their investment strategies.

Under the current system, den Uyl said there was a tendency for funds that approached 100 per cent funding levels to scale back on risk to meet their guaranteed liabilities. This would potentially limit returns and lock members into a nominal rather than an indexed pension.

“If these reforms do not go through then some funds will go into a more risk averse less return strategy in the long term,” den Uyl said.

“Our feeling is that these are much needed reforms so ABP is very positive from our role as a pension fund about these reforms.”

Den Uyl said that without these reforms it would be hard for funds such as ABP to maintain their current asset allocation.

“Without these reforms there will be some pressure for some funds to have less risk,” he said.

“What we hope, at least for ABP, is that we will be able to keep up our present investment policy and asset allocation, which have given us great benefits over the longer term.” den Uyl said.

Many details of the specific reforms are still to be negotiated and the potential costs of the agreement are yet to be analysed by the Dutch Government’s Central Plan Bureau.

Union members also needed to approve the deal. Several key unions already oppose the agreement, which seeks to share risk between generations as well as maintain pension levels that had underpinned the Dutch system.

Unions had managed to secure a 0.6 per cent rise in State pensions plus inflation per year from 2013 to 2028 as part of the reforms.

ABP has urged participants to seize the opportunity to reform the system.

The Dutch have about 600 pension funds, with around $1.08 trillion in assets, and 90 per cent of Dutch employees participate in these pension funds on a compulsory basis.

The agreement aimed to decentralise the Dutch system by providing general guidelines, with employer, employees and pension funds able to negotiate the pension contracts.

Proponents of the reforms said this would provide greater flexibility to tailor pension contracts to a particular sector or industry. This included the capacity to shape risk exposure to the specific needs of funds and their members.

But winding back the centrally-controlled system was set to create major challenges for funds in setting investments strategies, calculating liabilities and communicating with members.

Debate has raged in the Netherlands about whether the reforms will balance the needs of younger members who wanted exposure to risk and hence greater returns and those who are older and wanted pension security.

The agreement winds back defined-benefit elements of the system, allowing for fluctuations in financial markets to be spread between all generations.

Market downturns and the ramifications on pension levels were recommended to be spread over 10 years.

The government has already ruled out raising the contribution rate.

This leaves cutting pension payouts as a way of rebalancing an underfunded pension fund that has been hit by a market downturn.

Den Uyl said an example of one proposal for handling market risk involved a pension fund that was 90 per cent funded cutting pension payments by 1 per cent a year for 10 years to make up the shortfall. Likewise, a fund that had performed well and was 110 per cent funded would pay an extra 1 per cent a year to members.

ABP has described spreading market risk as a “balanced process”.  The fund, whose members are predominately government public servants, said the move to spread risk across the different generations aimed to give all participants “realistic coverage” but also avoided “imprudent short-term policy”.

The agreement aimed to solidify a system where the replacement rate of a Dutch pension fund was around 80 per cent of average pay, for participants who had worked 40 years.

Under its so-called “three pillar” system, workers had a flat rate pay-as-you-go state pension, a funded occupational pension and a third pillar where individuals could make additional savings.

Dutch workers typically contributed 20 per cent of their wages to saving for their pension. The Dutch system did not allow for individual agreements, with pension arrangements usually being made through collective bargaining between unions and employers.

PGGM chief executive officer of investments, Else Bos, said that while it was still too early to say how the changes would directly affect funds’ investment strategies, the most important decisions maintained the strengths of the Dutch system.

“The strong elements of the Dutch model will remain: the three pillar system,” Bos said.

She noted that current pension agreements already provided the capacity for members to share risk if a downturn was experienced. But the agreement formalised this process and sought to ensure better communication about risk with members.

In terms of the so-called second pillar of the system, funded occupational pensions, Bos said they would be less volatile under the new arrangements.

“The pension age will be determined in relation to life expectancy and there will be no more fixed nominal guarantees: fluctuations on financial markets will be spread between all generations,” Bos said.

ABP said the agreement addressed liability concerns that had left Dutch funds reeling both from the losses incurred in the market crash of 2008 but also increased liabilities from an aging population.

In the downturn it was estimated Dutch pension funds collectively lost $161 billion, with many slipping below 100 per cent solvency.

The agreement sought to adjust the retirement age in line with increased life expectancy. The Dutch would increase the retirement age from 65 to 66 by 2020 and have flagged an increase to 67 by 2025.

Recent changes in the mortality tables funds used to calculate their liabilities have added an estimated additional $58 billion to the Dutch pension sector.