By Bernard Hickey
This week the Government made yet another decision that makes political sense in the short term for today's voters, but makes no financial sense in the long term for tomorrow's voters.
It is a decision that is likely to cost voters in their 20s and 30s billions of dollars in lost potential savings over the decades to come, but it didn't make the front pages and will probably cost National few votes at next year's election.
That's because the Government's decision on Thursday to keep default KiwiSaver funds conservatively managed until 2021 seems to be an arcane one born out of a debate about investment theory.
That's a pity because it's a debate that every saver, young and old, should understand when they make decisions about their KiwiSaver funds and their votes.
The stakes are high.
Nearly half a million New Zealanders are in default KiwiSaver funds that manage at least NZ$3.5 billion. They were put there when they started a new job and were auto-enrolled by the Inland Revenue Department and allocated to one of the six default funds.
More than 60% of them have never moved, either through laziness, ignorance or a deliberate decision to stay in the conservatively managed funds.
These funds are at least 75% invested in bonds and cash that pay interest regularly and are less volatile than growth-oriented funds that invest relatively more in stocks.
When KiwiSaver was set up in 2006 by then Labour Finance Minister Michael Cullen he chose to make the default funds conservative and give them a seven year term starting in 2007.
Cullen was understandably nervous about KiwiSaver's future. Government subsidies were being put into these funds and many relatively ignorant savers were being put into something they didn't understand and without formal financial advice.
He was worried they might lose money if their were any slumps on stock markets early in the life of KiwiSaver and they would lose confidence in the scheme and stop saving.
It was an accidental masterstroke because shortly after KiwiSaver started the Global Financial Crisis hammered riskier funds invested in stocks.
The default funds invested in bonds coped much better through 2008 and 2009. They went on to outperform in the following two years because interest rates fell sharply, which increase the capital value of bonds. But that outperformance by conservative funds ended in the last year as stock markets boomed globally.
Investment theorists say markets are now reverting to their long term trends, which are that long term savers are better off investing in funds more heavily weighted to stocks.
The conservative option was the right one in KiwiSaver's early days, but now its training wheels are off and it should be allowed to fly.
The theory says savers should invest according to where they are in their lifecycle.
Young savers should invest in growth funds, while savers nearing retirement should be in conservative funds.
The power of compounding interest means those higher returns early in a savers' working life turn into a much healthier final fund when they retire.
The OECD, the Government's own Savings Working Group and its Capital Markets Development Taskforce all recommended the Government adopt a 'lifecycle' approach to allocating KiwiSavers into default funds.
The Government went against that advice this week and took the conservative option, arguing it wanted to keep public confidence in KiwiSaver and let savers make their own decisions about going into the fund appropriate to their age.
It did recommend the default funds show how they would educate KiwiSavers about making an active choice, but decided against making them provide expensive impartial financial advice on that decision.
That's all fine for financially informed and time-rich investors able and willing to make that decision. But the global evidence is that most savers in default funds never move and that it is extremely costly for them in the long run because they miss out on billions of dollars of returns from growth funds.
KiwiSaver has won its stripes and now it can be trusted to invest for the long term in riskier assets.
Yet again the government has decided to view the world through the prism of older, conservative voters and reduce its short term political risks at the expense of the long term financial future of the young.
The government's decision to suspend contributions to the NZ Super Fund between 2009 and 2020 has already cost the taxpayers of 2030 and 2040 more than NZ$3 billion in lost returns. That number will multiples of that by the time we hit 2040.
To illustrate the difference between long term growth funds and conservative funds, the growth-oriented NZ Super Fund returned 26% in the last year, while the KiwiSaver default funds returned an average of 6.6%.
That's not going to happen every year but over a 40-50 year working life that mounts up billions of dollars less to retire on.
Yet few young voters will notice or care and the government was safe to make that decision in political terms, but sometimes the conservative decision in the short term is the wrong one in the long run.
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A shorter version of this piece appeared in the Herald on Sunday.
17 Comments
Investment theorists say markets are now reverting to their long term trends, which are that long term savers are better off investing in funds more heavily weighted to stocks.
Which theorists? Names please or they don't exist - If they do, can they extricate their theory from the locked at the hip charts of share price indices tracking the cash spilled out by the US Federal Reserve's social experiment, aptly named QEternity - Graphic evidence
To illustrate the difference between long term growth funds and conservative funds, the growth-oriented NZ Super Fund returned 26% in the last year, while the KiwiSaver default funds returned an average of 6.6%.
Yeah right - follow the funny money strategy. All we observe is the not so covert default of the USD while the Fed waters the wine - the magic of it's egregious endeavours, including locked down zero bound interest rates, demands freely trading assets get revalued upwards.
One does not need to pay nor should anybody receive renumeration in terms of overinflated management fees to play this game of financial musical chairs. Naked self greed is a more than adequate analysis tool.
Oops - Winston Peters outs the not so secret projection of compound KiwiSaver management fees:
Speaking at the NZ First conference in Christchurch today, Peters said KiwiSaver providers had extracted excessive fees from savers. Since it was formed five years ago, providers had "sucked off $325 million from the people paying into the scheme".
According to Peters, an "independent source" had told him that over the next 30 years, the amount of fees would climb to $22 billion.
"KiwiSaver is a pot of gold - for the providers - not the savers."
Peters today proposed that a scheme on the same footing at the New Zealand Superannuation Fund, called KiwiFund, which would be government guaranteed.
Return would be "a lot higher" than they were in private providers, Peters said. Read more
Maybe the conservative funds will both earn more over 15 years, and be more likely to still be there than the share funds. My (& wife's) Cash fund in KS has earned, over 5 years, on a par or better than/with the "growth" funds.
If Kiwisaver is a conservative "top-up" to universal Super, private savings/investments & one's own freehold house (&maybe a rental), then what is the point in investing in the unreliable share-market?
A detailed definition of a winner might be called for:
Record highs for the S&P 500, the S&P 400 Midcaps, and small cap Russell 2000.
Upon this week’s legislation to reopen the government and raise the debt ceiling, the President stated that there were “no winners.” Yet equities (and, more generally, financial asset) investors and speculators did just fine. This week saw the S&P500, the S&P 400 Mid-Cap Index and the small cap Russell 2000 all trade to record highs. The week’s 2.8% advance increased the small caps’ year-to-date gain to 31.3%. Google added about 140 points and $38.5bn of market cap this week (to $338bn) to reach an all-time high (up 43% y-t-d). The more speculative “beta” stocks continue to outperform. Chipotle rose 15% this week, increasing 2013 gains to 71%, and First Solar jumped 8.7% to boost y-t-d gains to 82%. The NASDAQ 100 (up 3.7% this week), Morgan Stanley High Tech Index (up 2.6%) and The Interactive Week Internet Index (3.4%) all traded to the highest levels since 2000. Treasury, MBS, and corporate debt prices were higher as well.
The QE-enhanced 2013 version of “how crazy do things get?” is outshining even the 1999 speculative melee. The (post-LTCM bailout) year 1999 saw the small cap Russell 2000 Index jump from 422 to 505 (19.7%). This year, it has already run from 849 to 1,114 (up 31.3%). The S&P400 Midcap Index jumped from 392 to 445 in 1999 (13.5%). With more than two months to go, so far it’s 1,020 to 1,290 for the midcaps (up 26.5%). Read more
You investment theorists are 4 years late Bernard ....
... the time to invest in growth assets was when the blood was flowing in the streets , as they say ...
Back when Bill English decided not to add to the NZ Super Fund .... 'cos he worried that the sharemarkets which has just crashed 50 % , might have another crash immediately ahead ...
... remember your constant refrain about a " double dip recession " , big guy , which never came to pass ?
... if you wanna make alot of fund managers rich & happy for doing sweet bugger all , give them your KS funds ... ( or more cheaply , just invest in a passive or index fund ) .. ..
If people are alert and concerned enough about the implications of this decision to change their vote, then they are capable of taking the option and indeed the responsibility to decide for themselves where and how they want their savings to be managed.
Basically, this comes down to the nature of the Government's responsibility. Bernard seems to think the Government should actively seek to optimise every individual's life outcome, overriding that individual's own preferences and decisions where necessary - much in the same way as a loving and responsible parent would do for a child.
Others think that Government should leave individuals free to follow their own preferences and make their own mistakes, as long as they don't impinge on others' persons or property and with a safety net in case of real misfortune - much in the same way as a loving and responsible parent would do for an adult.
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