After weathering political attacks during its early days and three years of bear equity markets, Hong Kong's Mandatory Provident Fund (MPF) has now found a new enemy just as members are starting to benefit from dollar-cost averaging. Shareholder activist David Webb, best known for his excoriating attacks on corporate governance abuses and Hong Kong Stock Exchange and regulatory complacency, recently fired off a broadside against the MPF that says its fee structure makes it a loss for investors and a giveaway to banks, insurance companies and fund managers.
Webb bases his argument on the HSBC Hang Seng Index Tracking Fund, launched as an MPF choice in December, 2000. Webb finds that in 2004, this product underperformed the underlying Hang Seng Index and had a total expense ratio 15 times higher than the Hong Kong Tracker Fund ETF (TraHK) managed by State Street Global Advisors.
The fees associated with managing MPF end up making the HSBC Hang Seng offering charge investors 1.95% all-in, which is very high for an ETF that costs under 20bps on the retail market.
Someone who invests in MPF for 40 years at a 2% TER (total expense ratio) will see 40-55% of their investment's returns eaten by fees, he calculates.
Webb says these fees are high for several reasons: first, because MPF providers are greedy; second, because MPF administration costs are high; third, MPF members, not their employers, bear the full cost of administration; and fourth, because employers, not members, end up picking a master trust, a decision often based more on banking relationships or perks than on fee-based competition that benefits the member.
There are some philosophical arguments as well, but first, the industry's immediate response.
MPF providers emphasize that a balance had to be struck between meeting private providers' commercial needs, and giving Hong Kongers a reasonably inexpensive, well managed suite of choices.
HSBC Insurance readily acknowledges that the TER for its index fund is higher than buying the Tracker in the retail market: "The MPF Hang Seng Index Fund differs from TraHK in that the former provides an all-in-one service which covers scheme member administration, fund management and trust and custodian fees, whereas TraHK, as a common listed stock, does not require such services," says CF Choy, CEO.
He adds that HSBC also offers multiple MPF funds, depending on the scheme chosen by the employer, and members can use more than one and switch as well.
Rival providers say it is inappropriate for any MPF trust to charge full equity prices for an index fund. "The cost of running an index fund is 10bp at most," says Douglas Naismith, managing director at Fidelity Investments.
But he takes issue with Webb's contention about fees eating half the long-term return. "You have to ask what the performance of the underlying assets will yield," he says.
Or, as Nick Crouch, CEO at Manulife Provident Funds says, "Tracker Fund returns have been pretty lousy."
Naismith continues: "Yes it is possible to lose money in MPF within a five-year timeframe." He notes that from inception, the first three years of MPF lost investors money. But members broke even in 2003 and now they are ahead.
"On day one we had zero assets out of a membership population of 1.8 million, but we had to provide US 401(k) levels of administration," says Naismith's colleague, Nicholas Rogers, head of institutional business in Hong Kong. "There will be attrition of record keeping fees over time as volumes increase – they've already gone down 20-30bp in our own funds - and the investment management fees are amongst the cheapest in the world for this type of product." He adds that in countries where fee ceilings have been imposed, such as under the United Kingdom's stakeholder system, the result has been bad service.
Providers also are quick to complain about stringent regulatory and compliance costs associated with MPF.
MPF providers say that investors are indeed ill-served by capital-preserved funds, particularly if they are young, and that those will surely suck out much of the returns in fees because of their extreme low-yielding nature. Most providers try to explain this to members, but the government requires such low-risk offerings be available.
However, employees do have alternatives within any MPF trust, and many providers are keen to see the arrival of multi-manager platforms expand to the big incumbents such as HSBC, which along with affiliate Hang Seng manages something like 40% of MPF assets.
"When markets become more mature," suggests Invesco Hong Kong CEO Kerry Ching, "it is possible that the MPF structure will be updated to simulate the Canadian market, where members are free to choose retail funds that they like."
And, providers note, any employee who changes employers has the opportunity to leave their old MPF savings where they are, move them to the new employer's MPF program, or choose a third MPF provider. So the system is not completely without choice.
To David Webb, all this is fine, but it misses his philosophical argument. He is aware that administering the MPF regime is expensive - that's his complaint: "The policy intent of the MPF was in essence to force a small minority of people who would not otherwise save any of their salaries, to save for retirement," Webb writes. He says that although this policy is designed to reduce the risk that Hong Kongers will need a social security welfare net, the loss of savings through high TERs undermines the goal.
He also criticizes the lump-sum payment upon retirement: "If you are one of the people who needed this government-imposed discipline, then you are hardly likely to take that lump sum and invest it wisely." One solution is to pay out MPF in stages or require members to buy annuities, but he is suspicious of this as a giveaway to financial providers.
Webb would rather members be allowed to choose to withdrawal their accumulated savings from MPF and invest them directly in lower cost investment products, or at least be able to choose from "personal provident funds" on the open market.
Industry executives are not moved, although they already agree with Webb's concern regarding lump-sum payments.
A spokesman at the Mandatory Provident Fund Schemes Authority says, "The existing employer-based arrangement has been arrived at after years of deliberation within the government and the Legislative Council. It represents a fine balance between cost of employers, benefits of employees and efficiency of scheme operation. Any change to this arrangement requires careful consideration and deliberation."
Moreover, the government has been aware that investors need better, more simple information about fees and charges so that they can make decisions about which trust to adopt, and what products to use. The MPFA has introduced a disclosure code that aims at improving the transparency surrounding such matters, to give investors more of an apples-to-apples comparison. This will include requiring MPF providers to disclose TERs for each product in 2006, with the aim of letting market competition lower fees.
Although Webb can argue that a mandatory retirement scheme seems out of step with a laissez-faire place like Hong Kong, he does not seem to account for the moves across many countries, in the West and in Asia, to meet the demands of a rapidly greying population. MPF provides a system of strict compliance, individual ownership and member choice that is meant to safeguard against abuse.
"The MPF is not just for [Webb] but for the mass employees," says Nick Crouch at Manulife.
Mark Konyn, CEO at Allianz Global Investors, says, "The benefits of account administration are not fully understood. It's not trivial. Governments have struggled with this issue across North America and Europe. What we've got here in Hong Kong is not a burden to the public sector."
