How higher interest rates will benefit members

Manpower Minister Ng Eng Hen yesterday sketched out details of the CPF reforms and other measures to help Singaporeans build up their retirement savings.His ministerial statement, focuses on three pillars of retirement support - working longer, increasing CPF returns and making savings last as long as one?s life span

IN 20 years, a Central Provident Fund member with $60,000 in his CPF savings will get $17,900 more.

Manpower Minister Ng Eng Hen cited this example yesterday to show just how much a member will benefit from higher CPF interest rates.

Indeed, seven in 10 of all CPF members and more than half of active CPF members will benefit fully from the higher rate, Dr Ng told Parliament yesterday.

From next January, the Government will pay out an additional percentage point on the first $60,000 on all CPF accounts, up to a cap of $20,000 in the Ordinary Account.

This change was announced by Prime Minister Lee Hsien Loong in his National Day Rally speech last month.

It is aimed at helping Singaporeans, especially low-income workers, build a bigger retirement nest egg.

Yesterday, Dr Ng fleshed out details of the CPF changes, revealing that the higher interest rate will cost the Government at least $700 million a year, equal to its annual grant to the HDB.

At the same time, the Government will float the interest rates of the Special, Medisave and Retirement Accounts (SMRA) and peg them to 10-year Singapore Government Securities (SGS) rates.

Under the current system, the SMRA rate is a guaranteed 4 per cent.

Under the new system, the SMRA rate is pegged to the previous year's 10-year SGS rate plus one percentage point.

The average SGS rate is now 3 per cent. Based on this peg, it means the SMRA interest rate will be 4 per cent - the SGS rate of 3 per cent plus 1 percentage point.

To help members adjust to the floating rate, the Government will still pay out a minimum of 4 per cent on the SMRA for the next two years, said Dr Ng.

This 4 per cent floor will also apply to the first $60,000 in the combined CPF accounts that enjoy a higher interest rate.

Since the 10-year SGS was launched in 1998, the highest daily rate it rose to was 5.69 per cent, while the lowest it hit was 1.79 per cent.

Dr Ng said the decision to peg rates to the 10-year SGS was based on several factors.

Among other considerations, the move had to be financially sound, easily understood and not exposed to fluctuations in currency exchange rates, he said.

The ideal peg, added Dr Ng, would have been a 30-year SGS because that would be the average time members' money stayed in their SMRA.

But there was no such bond and shorter bonds of 20 years were not actively traded, making them unsuitable as a peg.

Said Dr Ng: 'Why plus 1 per cent? Because this will adequately provide for the difference we would expect between the interest on the 10-year SGS, which we are using, and the 30-year SGS, if it existed.'

Addressing worries over fluctuating returns, Dr Ng said the new rates should be viewed from a long-term perspective.

'For members' information, had the new SMRA formula been in place since the first issue of the 10-year SGS in 1998, the SMRA rate would have averaged 4.5 per cent,' he noted.

Likewise, he dismissed fears that the CPF changes will deprive fund managers of investable CPF funds.

Under the new rules, from next April, a CPF member will not be allowed to invest the first $20,000 of his CPF Ordinary and Special accounts savings under the CPF Investment Scheme (CPFIS).

Said Dr Ng: 'Money already invested in CPFIS will not be affected. Even after these restrictions, $42 billion will still be available for use in CPFIS.'

A CPF member will still be able to use Ordinary Account funds for housing, CPF insurance and education schemes, said Dr Ng.

There will also be no change to the HDB concessionary loan rate, which is currently at 2.6 per cent, pegged 0.1 percentage point above the CPF interest rate.

Financial analysts like Mr Leong Sze Hian said the change will make people less negative about the floating SMRA rates.

'With the additional 1 percentage point in the formula, there is a good chance that the rates might exceed 4 per cent over the long term,' said Mr Leong, who is president of the Society of Financial Service Professionals.

Accountant Joe Lim, 28, agreed, saying the new formula struck a balance between risk and reward.

Said Mr Lim: 'There is a potential for slightly higher gains while the extra 1 percentage point acts as a buffer for my savings. Not too bad a deal.'

Singapore’s CPF Retirement Scheme: Delivering More Bang for the Buck

Singapore’s CPF Retirement Scheme: Delivering More Bang for the Buck
From Knowledge@SMU

Singapore’s Central Provident Fund (CPF) is one of Asia’s oldest and best known defined contribution retirement schemes. Established in 1955 as a mandatory savings programme, theCPF now has over 3 million members with balances representing about 15% of Singaporeans’ total wealth. As the country rapidly ages, second only to Japan in terms of low fertility rates and longest life expectancy, government policymakers are paying close attention to whether its citizens and residents are saving enough for retirement.

Singapore Management University finance professor Benedict Koh, and Wharton insurance and risk management professor Olivia Mitchell recently prepared two working papers on Singapore’sCPF Investment Scheme (CPFIS) in which they examine the asset allocation of CPF investors and the cost of investing in unit trusts.

How the CPF Works

CPF member contributions go to three accounts where they earn government-set interest rates: the Ordinary Account (OA), earning 2.5% interest, which could be used to purchase homes and insurance, and support education and other expenses; the Special Account (SA) intended mainly for retirement savings; and the Medisave account for medical and critical illness insurance. Both the SA and Medisave earn 4% interest each, if the funds are invested on members’ behalf by the government. At age 62, SA savings are transferred to a retirement account which can also earn 4% interest and pays an annuity over 20 years up to age 82. Contribution rates to theCPF depend on age and income, and range from 8.5% to 33%, up to an income ceiling of S$4,500 per month. All contributions and withdrawals are tax-free.

The CPF has evolved over 50 years from a “forced savings scheme” to a “wide-ranging social security system”. At the end of 2005, account balances totalled nearly S$120 billion, about three-quarters the size of Singapore’s GDP that year. 49% of members’CPF balances were in the OA, 17% in the SA, 29% in Medisave, with the balance 5% in retirement and other accounts. Since 2003, CPF assets have grown at an average rate of 7%.

“Asset Rich Cash Poor Phenomenon”

According to Koh, Mitchell, Tanuwidjaja, and Fong (“Investment Patterns in Singapore’s Central Provident Fund”), the bulk of cumulativeCPF contributions (44%) have gone to the purchase of residential and investment properties. A sizeable portion (29%) remains in the OA and SA accounts, earning guaranteed interest, while only 10% of the funds were invested in capital market instruments permitted under the CPFIS .

The authors note that the heavy investment in a single property can lead to “an asset rich, cash poor phenomenon” in Singapore. They suggest that policymakers consider restricting the proportion of saving used to purchase property to helpCPF members ensure they have sufficient funds for retirement. Other policy options might include spurring the growth of a reverse mortgage market, and allowing homeowners to freely rent out their apartments for income. Recently, the government has changed rental rules for public housing estates where around 80% of Singaporeans live. Homeowners may now rent out their flats after owning them for 3 years, while those who have taken government funds to purchase their homes can rent after 5 years. The authors feel that such actions by the government may be prudent, so as to enable cash-strapped retirees to transform a consumption good (their residence) into an investment good (rental property) to generate cash for daily expenditures.

Asset Allocation

The authors note that CPF saving “clearly represents a sizeable portion of household’s total wealth…Therefore it is important that CPF holders be proactive in maximising investment returns on CPF saving”. Today, CPF account holders are allowed to invest a portion of their OA and SA funds in a wide range of capital market instruments including fixed deposits, bonds, property funds, equities, annuities, endowment policies, unit trusts, investment-linked insurance policies (ILPs), exchange traded funds and gold. Currently, there are 400 different unit trusts and ILPs on offer. However, the authors’ research shows that “the bulk ofCPF saving today is still held in the government-managed default fund”. As of December 2006, only 10% of funds have been invested while another S$79 billion is retained in the OA and SA accounts.

One reason for the low investment rate, the authors suggest, is that people may prefer to keep their money in the relative safety of aCPF default investment account. Another explanation they offer is that “participants may simply not know what to invest in and how to invest. Being perplexed, members may choose the path of least resistance, which is to simply leave their funds with theCPF and earn the guaranteed return.” Such inertia may be justified by the finding that three-quarters of CPF members in 2006 who enrolled in the CPFIS’s offerings had made losses or earned less return than the 2.5% payable on their CPF ordinary accounts .

Of the funds that were invested (S$27.9 billion), 67% went into insurance policies such as annuities, endowment policies and ILPs, 20% in equity and loan stocks, while only 12% was in unit trusts , collective insurance schemes offered by fund management companies.

The authors also find that men tend to be slightly more proactive in managing their CPF investments as compared to women. Men tend to invest more of their saving in shares, while women tend to put more into insurance products. Contrary to the advice of financial planners,CPF investors tend to take more risk as they age. The more mature (56+) age group commits a higher proportion of saving to stock investments and less to insurance products, compared to younger age-groups. The asset allocation ofCPF investors also differs across income groups. Those in the lower income groups tend to hold less risky investments as compared to the higher income groups.

“Hidden Costs”

In a second paper, “Cost Structures of Investment Offerings in Singapore’s Central Provident Fund”, Koh, Mitchell, and Fong suggest that another possible reason for the low rate of investment ofCPF funds is the “daunting array of fees and charges, minimum initial investments, and other fund features, making it difficult for the unsophisticated investor to know what to elect”. The two largest fund costs are the initial sales charge and the expense ratio. The sales charge ranges from 0% to 6% but has typically been 5%. To address this issue, as of 1^st July 2007, the CPF Board capped initial sales charges at 3%.

The expense ratio ranges from 0% to 7% of the fund’s net asset value. It is important since this is a yearly cost, whereas the sales charge is a one-time cost. The study found that the average expense ratio was 2.1% for actively managed funds allowed under the CPFIS and 1.0% for passively managed funds. There are 164 actively managed equity funds included in the CPFIS and only 3 passively managed ones. Balanced funds (bonds and equity) also had an overall expense ratio of 1.9% while income funds (bonds) showed an average expense ratio of 1.1%.

A third cost becoming more widespread is a “wrap fee” which is charged by financial advisers and insurance companies. It can be as much as 1.5% and is not part of the expense ratio. The authors point out that “unwary or uneducated investors may not be fully appraised of these additional charges.” A fourthcharge is transaction fees and agent bank fees. Bank transaction fees are charged under the OA but not the SA scheme. There is a quarterly service charge of S$2 to S$5 collected by the agent bank for servicing eachCPF investment account. There is also a S$2 to S$2.50 transaction fee per lot of shares purchased unless one works with an Investment Administrator to consolidate purchases. As of the end of 2006, there were threeCPF-approved Investment Administrators.

A fifth charge is hidden expenses, also not included in the expense ratio. This refers to brokerage commissions and the impact of the bid-ask spread on costs. It also includes taxes deducted at source and foreign exchange conversion costs. Although not a cost, investors are also subject to foreign exchange fluctuations. This may be thought of as a hidden risk since it is not easily seen by investors. Marketing and advertising expenses are also excluded from the expense ratio as are interest expenses. ILPs (but not unit trusts) generally include an insurance charge; some ILPs also include a service fee of up to 0.75%. Neither is part of the expense ratio. Less common hidden expenses are a realisation charge (back-end load), redemption fee (for selling in a short time such as 90 days) and switching fees (for switching within a family of funds).

The authors argue that passively-managed funds (regardless of fund type) could be less expensive to manage than actively-managed funds, due to the lower turnover of securities and less monitoring required Passive equity funds have average sales loads that are more than 50% below the sample mean. The same cost difference holds for balanced funds.

The authors also carried out a regression analysis to explain observed cost patterns. They find that (i) ownership, (ii) style of fund management and (iii) type of fund are key factors. Foreign-owned funds are found to charge 42 basis points more in sales load than locally-owned funds, 16 basis points more for management fees, and 53 basis points more in first-year total costs. Actively managed unit trusts charge more than passively managed funds. Equity and balanced funds charge more than income and money market funds. Larger funds are also found to be slightly less expensive than small funds, charging 8 basis points less. According to the authors, “passive funds are often deemed suitable for novice investors who are not sufficiently confident to select their own stocks or unit trust; they may also be suitable for long-term investors seeking growth but who lack the time to actively manage their investments.”

The authors also recommend streamlining and rationalising the many investment choices to include inflation-protected instruments, more index-linked funds, and low-cost life cycle funds. The latter especially are a cost-effective way to diversify and rebalance investments to suit the investor’s life stage. They cite the Chilean experience where investors are defaulted into higher risk funds when younger and automatically transit to more conservative portfolios as they get older, unless they opt for a different investment mix. Other ideas for encouraging investments to enhance investor returns are to aggregate and simplify data on fees and charges, and to provide education and learning aids, such as on-line calculators, that would help investors compare offerings and take decisions on how to optimise their savings for retirement.

“The CPF has taken several measures recently to moderate retail costs for investors. These include setting more stringent criteria for admitting new unit trusts into the CPFIS, continually reviewing existing unit trusts, capping sales charges, and developing investor education programmes that advise its members to make informed decisions,” says Mitchell. “In the longer term, theCPF could continue to fine-tune costs, devise default funds with acceptable risks and returns, and even harness market forces to drive down costs and enhance net returns.”

Published: August 2, 2007

Parliament debate to focus on CPF changes

MPs say compulsory annuity is perceived in negative light

CHANGES to the Central Provident Fund (CPF) system will be the main topic of debate in Parliament from Monday when Manpower Minister Ng Eng Hen gives details of proposed changes.

Wide-ranging amendments to the Penal Code, which governs most criminal offences here, will also be tabled at the sitting, as will a proposed piece of legislation on preventing terrorist bombings.

As these two sets of amendments are only being introduced, or in parliamentary parlance, going through their 'first reading', they will be debated at a later date.

Changes to CPF to prepare for a greying population were first outlined by Prime Minister Lee Hsien Loong in his National Day Rally speech last month.

The CPF measures are meant to ensure people have enough for old age even as lifespans grow longer.

Among other things, CPF members will get higher returns of up to one percentage point more on their savings.

The draw-down age for the Minimum Sum will also be postponed from 62 to 63 in 2012, and gradually raised to 65 by 2018.

The Minimum Sum is the amount members must keep in their Retirement Account after withdrawing their CPF at age 55.CPF members now get a monthly payout from the Minimum Sum at age 62, for up to 20 years.

But the change likely to attract intense scrutiny is some form of compulsory annuity for members now below 50.

MPs say the annuity is perceived negatively at dialogues with residents.

Mr Charles Chong (Pasir Ris-Punggol GRC) said: 'Nobody thinks they are going to live beyond 85. Usually, whatever money goes to the next of kin, so it's hard to say the money goes to others.

'Others also ask, where is the government involvement here? It's getting half the people to subsidise the other half. The minister has to fill in all the blanks,' he added.

On Monday, three MPs will ask the Prime Minister for an update on the public sector's efforts to re-employ older workers beyond the retirement age of 62.

MPs have also tabled questions on the impact of the sub-prime mortgage crisis in the United States on Singapore's economy, banks and property market.

Opposition MP Low Thia Khiang (Hougang) will ask Defence Minister Teo Chee Hean how Dave Teo Ming, an army corporal, managed to slip out of Mandai Hill Camp with arms and ammunition earlier this month. The army corporal was arrested in Orchard Road on Sept 3 after a 20-hour manhunt, and his case is before the courts.

Changes to the Penal Code are likely to include more teeth to deal with crimes committed online and increased sentences for various offences. A draft of the proposed changes was released for the public to give its views last November.

Seven Bills will also be up for debate at the sitting.

They include changes to the Land Titles (Strata) Act to make collective property sales more transparent, and changes to the Building Control Act to improve the quality of construction and safety standards at worksites.

Leave comfort zone to gain cultural versatility

Leave comfort zone to gain cultural versatility I REFER to the report, 'More secondary students to go on overseas stints' (ST, Sept 13). While I am heartened by the move to have more school children go abroad, I believe it requires more than a short stint of overseas experience to instil that 'global thinking' and 'cultural versatility' espoused by Education Minister Tharman Shanmugaratnam.

For students to be truly able to absorb this global mindset, it will take at least three to four years of study abroad. This is because part of this mindset encompasses the need to network and forge deep and meaningful relationships with foreign counterparts, by having common life experiences and growing and developing together. This is not easily achieved by venturing abroad for a few weeks or months.

Sometimes, even pursuing an entire three to four years of tertiary education is no guarantee of this global outlook and mentality.

As pointed out in another article, 'Singaporeans stick together overseas' (ST Life!, Sept 13), there is not much global networking if students stick to their own cliques and associate only with other Singaporeans.

By all means, students should plan for overseas stints or even seriously consider pursuing their higher education abroad. But to think that doing so will naturally instil a global mindset is a misconception.

It requires each individual student to move out of his comfort zone and make a conscientious effort to appreciate each other's cultures and values.

Only then, in the words of Mr Tharman, can students truly 'understand differences around the world and turn them into opportunities'.

Tony Tan Song Huat

WILL NEW BOND PEG END UP 'HURTING THE OLD'?

IT IS designed to enhance the retirement nest egg, but if market conditions have their way, some economists and finance professionals wonder how re-pegging Central Provident Fund (CPF) interest rates to government bonds will help the older generation.

In a recent market weekly report, Citi economist Chua Hak Bin mapped out a scenario in which the younger generation may benefit, but the older generation may get lower returns than now, if their Special, Medisave and Retirement Accounts (SMRA) are pegged to a long-term bond.

The 10-year government bond has a current yield of 2.8 per cent compared to the SMRA's 4-per-cent guaranteed rate, he said. The Ordinary Account (OA) attracts an interest of 2.5 per cent.

Going by this, he calculated that younger individuals with a CPF account of $20,000 in their OA and $40,000 in SMRA would earn an effective interest rate (weighted average) of 3.7 per cent, or $120 more a year, compared to the current 3.5-per-cent effective rate.

The calculation includes the 1-percentage-point additional interest the Government plans to give on the first $60,000 in CPF accounts - up to $20,000 in the OA and the rest in the SMRA.

Still, an older cohort with the Minimum Sum of $99,600 in their SMRA and $20,000 in their OA would earn a lower 3.3 per cent, or $590 less a year, with the bond peg, Dr Chua calculated.

This is because a lower long-term bond yield could dominate the 1-percentage-point interest rate for those with larger sums in their SMRA.

Individuals who previously transferred their savings into the SMRA from the OA would also see the interest rate gap narrow substantially under the new peg.

"Not everybody will benefit. The younger generation benefits as they have only started to save and would most likely put their savings within the first $60,000. But if you are of the older generation who would have a larger proportion of your CPF savings in the SMRA, rates there are actually lower in the long run. Ironically, you are hurting the older generation you are trying to help," Dr Chua told Today.

A recession or financial crisis could also bring down the SMRA interest rate.

Manpower Minister Ng Eng Hen, who will explain in Parliament today how the Government will re-peg the CPF interest rates, said last month that the new SMRA rate will be lower initially, but should do better over time.

Economists have told Today they expect Singapore government bonds to be the reference point, while Society of Financial Service Professionals president Leong Sze Hian expects rates to be pegged to a composite benchmark of two or more indices, such as part Singapore bond index and part global bond index, to give higher returns.

Most, however, are sceptical about the chances of yields crossing the 4-per-cent threshold over time.

"I don't think pegging CPF to a government bond will get high rates above 4 per cent, at least until the end of 2008," said Mr Alvin Liew, former economist at UOB Treasury Research.

With long-term bond yields generally dependent on the outlook of the economy, which grew at 7.9 per cent last year, there are questions about whether Singapore's medium-term economic growth estimate of 4 to 6 per cent can sufficiently bump up yields.

Mr Leong added that bond rates fluctuate and depend on various factors like interest rates, expectations and default risks. "There is no basis for saying that the rate is going to be higher in the future. The fact is, nobody knows," he said.

Besides the impact on older folks, if rates are lower, it might cause a shortfall in Medisave accounts. Said Mr Liew: "In recent months, you have seen healthcare costs going up quite substantially in the Consumer Price Index. The lower-income group will be more affected by lower returns."

Sharing the same concerns, Member of Parliament Ong Kian Min said that, historically, CPF members have enjoyed guaranteed returns regardless of how the economy performs. This move marks a fundamental shift.

"Investing in bonds may subject CPF savings to lower rates. This can only be a good start provided the Government also considers, in future, investments other than bonds that may yield a higher return," he said.

These are some of the questions and suggestions the manpower minister will have to address today.

Nike takes false-advertising case to Supreme Court

By The Associated Press

10.15.02

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PORTLAND, Ore. — Nike Inc. has asked the U.S. Supreme Court to review a free-speech case arising from its advertising campaign to defend working conditions at overseas plants.

The Beaverton-based company, the world's largest athletic shoemaker, filed the appeal yesterday.

Nike is asking for review of a 4-3 ruling by the California Supreme Court in May that an activist can sue Nike for allegedly violating false-advertising laws during a 1996-97 campaign to inform the public about its labor policies. Nike sent letters to the editors of major newspapers, among other things.

The suit claims Nike deceived consumers by falsely stating it guarantees a "living wage" to all workers, and that its workers in Southeast Asia make twice the local minimum wage and are protected from corporal punishment.

Nike says it is taking part in constitutionally protected political debate about worker rights and the global economy.

"Uttering even a word would become far more risky than simply keeping silent, if this ruling stands," said Laurence Tribe, Nike's lead attorney.

The company said yesterday it would not release its annual corporate responsibility report unless a court first wipes out the threat of a suit and big monetary award.

The report discusses the company's labor and environmental policies around the world.

The California Supreme Court ruled Nike's campaign constitutes commercial speech and is subject to California consumer-protection laws that are among the least friendly to business in the country.

The court fight has not yet determined whether Nike made false statements, focusing instead on whether the suit can go forward. San Francisco resident Marc Kasky filed the lawsuit, which had been dismissed by a trial court and a state appeals court before going to the California Supreme Court.

A decision by the U.S. Supreme Court on whether to hear the case, Nike v. Kasky, is expected in December or January.

Activist gets go-ahead to sue Nike over ads

By The Associated Press

05.03.02

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SAN FRANCISCO — California's highest court has ruled Nike Inc. can be sued by an activist alleging the athletic shoe and apparel maker violated false-advertising laws with an ad campaign defending the wages, treatment and safety conditions of workers at overseas factories.

In a 4-3 decision yesterday, the state Supreme Court overturned lower court decisions and ruled Nike's efforts to quell accusations of worker mistreatment constitute commercial speech, which is subject to a California consumer-protection law that is one of the nation's least friendly to businesses.

"Our holding, based on decisions of the United States Supreme Court, in no way prohibits any business enterprise from speaking out on issues of public importance or from vigorously defending its own labor practices," wrote Justice Joyce L. Kennard.

"It means only that when a business enterprise, to promote and defend its sales and profits, makes factual representations about its own products or its own operations, it must speak truthfully."

The court emphasized its ruling does not indicate whether the Beaverton, Ore.-based company made any false representations. Attorney David Brown, who represents Nike, said the company may ask the U.S. Supreme Court to review the case.

"We're greatly disappointed with it because we feel that Nike's position is legally the correct one," Brown said, adding he was happy the court was silent on the case's merits.

The highly publicized suit, which had been dismissed by a trial court and a state appeals court, claims Nike's 1996-1997 campaign in defense of its wages, treatment of workers and health and safety conditions at Asian plants run by contractors was a misleading business practice, not the First Amendment-protected political debate that Nike has argued.

The suit said Nike deceived consumers by falsely stating it guarantees a "living wage" to all workers, that its workers in Southeast Asia make twice the local minimum wage and are protected from corporal punishment, and that it complies with government rules on wages, hours and health and safety conditions.

Those claims were refuted by studies by labor and human rights groups, news media investigations and — most damaging of all — a January 1997 audit by the firm of Ernst & Young, commissioned by Nike, said the suit filed by San Francisco resident Marc Kasky on behalf of California citizens.

Kasky helps manage a foundation that preserves Fort Mason, a former San Francisco military base-turned-recreation area. He said he sued Nike "because it's important they be accountable."

Kasky's attorney, Alan M. Caplan, was excited by the ruling.

"For four years basically we've not litigated the merits of the case. It's all been the one issue of whether Nike's speech was commercial speech," Caplan said. Yesterday's ruling will hold companies "to the standard of telling the truth."

The three dissenting judges wrote it was unfair to deny Nike and other corporations uninhibited speech when defending their reputations against unrestricted public accusations.

"While Nike's critics have taken full advantage of their right to 'uninhibited, robust, and wide-open' debate, the same cannot be said of Nike, the object of their ire," wrote Justice Ming W. Chin. "When Nike tries to defend itself from these attacks, the majority denies it the same First Amendment protection Nike's critics enjoy."

Nike officials said yesterday the company has since improved standards for workers by raising minimum age requirements and using water-based adhesives to assemble products rather than petroleum-based.

Shares of Nike rose 55 cents to close at $54.24 yesterday on the New York Stock Exchange.

The case is Kasky v. Nike Inc.