The dry residue of the previous seemingly long-winded saying is that the losses incurred during the previous decline in the security’s prices are gradually recovered and in some cases even turned into profits as the market conditions change.
How returns are formed
Similar to other investments in financial markets, pension fund investments are also made with the aim of buying something cheaper and selling it more expensive. Both the funds themselves and their clients, that is, the citizens, can benefit from fluctuations in securities market prices, dividends received and interest payments on debt securities coupons. How the future value of each invested euro changes under the influence of market fluctuations and the aforementioned payments characterizes the return or profitability of a particular pension plan. If, for example, you want to evaluate how the market situation has changed in a short period of time for profit, a good evaluation indicator is annual or 12-month profitability. If we look at this aspect, the situation has drastically improved in recent months. Previously, the profitability of financial markets and pension plans was negatively affected by both global economic uncertainty and constantly increasing interest rates, which resulted in a fall in the prices of company shares and various debt securities, including government bonds of financially stable countries. The latter assets are used for investments by conservative pension plans, while active pension plans direct a greater part or even all of their investment to investments in the stock markets. They are riskier in terms of investment, but bring higher returns in the long run.
According to “manapensija.lv” data, on June 8 of this year, 18 out of 29 second-level pension plans had a positive 12-month yield. Including the three most successful pension plans, the 12-month yield exceeded the 5% limit, which is a relatively good indicator even at times when the economy is relatively stable.
The more shares the better
The pension plans that had achieved the highest rates of return belong to the group of active pension plans that can devote up to 100% of their assets to investments in the stock market. The most successful of these pension plans had a trailing 12-month return after commissions of 5.64% on June 8. Thus, every euro invested in this plan a year ago is now worth 1.056 euros. The data clearly show that the profitability indicators of active pension plans have drastically improved over the past months. For comparison, the investment made three months before a year ago would be worth only 1,012 euros. Thus, the return has effectively reached 4% in three months. On the other hand, if we look at the overall picture three months ago, then on March 8 of this year, only five pension plans had a positive 12-month return and the highest return for the annual period reached only 0.82%. On March 8, the worst 12-month return was right there at minus 13%. Three months later, the same pension plan has a one-year return of minus 4.15%.
In general, the worst indicators are currently for the group of conservative pension plans, but it can be seen that the situation is gradually improving, which is also confirmed by the changes in the profitability of the above-mentioned pension plan. However, in general it can be said that the higher the proportion of stocks in pension investments, the better the return. Currently, in this field, a long-term comparison of the differences in returns of conservative and very active pension plans in Latvia cannot be made. This is because plans with a high – 75% or 100% share – in investments have only appeared recently.
Such a comparison can be made for the last five years. During this time period, the most “positive” rate of return in average percentage per year in the group of conservative – bond-oriented plans – reaches minus 0.59%. Meanwhile, for active plans that can invest up to 50% of their funds in the stock market, this figure reaches 4.07%, while for pension plans with the option to invest all 100% in the stock market, the average annual return was 7.71%. In real money terms, this means that one euro invested in the most profitable conservative plan five years ago is now worth 97 cents, the most profitable plan, which can invest up to 50% in stocks, is worth 1.22 euros, and the best plan, which was allowed to invest 100 in stocks % of funds, one euro has turned into 1.45 euros.
The last of the mentioned pension plans is ahead of the five-year inflation indicator already this year, while the moderately active pension plan is likely to do so in the long term. However, with a 50% stake, the investor can most likely claim to maintain the purchasing power of his funds, but not a large profit. In Latvia, the data of the “manapensija.lv” portal also allows you to look at the 15-year average yield. This allows you to see how much a pension plan can outpace inflation and is a good reference point for how a particular pension plan managed to overcome the great financial crisis of 2008 with its investments. If we look at this section, then in the last 15 years, the most profitable pension plan with a proportion of shares up to 50% has earned an average of 3.22% per year for its investors. For every euro invested in it 15 years ago, the value has increased by 61.1%. On the other hand, inflation, according to the data of the Central Statistical Office, was 59.7% in the period from June 2008 to May of this year.
There is no need to be afraid of crises
The 15-year yield just mentioned proves that what is lost in the crisis is regained with a twist. None of Latvia’s 2nd level pension plans are in the red compared to the period before the previous financial crisis. In addition, during a recession, securities are bought cheaper and when good times return, these cheaper securities generate a sharp increase in profits. For example, during the last year, when bond prices have fallen along with the significant increase in interest rates, pension plans, guided by market value figures, have shown large statistical losses. At the same time, the newly bought bonds are also cheaper, and when the market experiences a positive correction, there are opportunities to earn from the newly bought securities.
Pension investments are long-term, and what is lost in bad years is recovered in good years, and there are more good years. Latvia’s 2nd pension level has a very bad history in many cases, but that doesn’t mean it has to continue in the future. In the last few years, quite significant reforms have taken place, as a result of which the commission fees of pension plans have significantly decreased, moreover, the legislation is currently arranged to such an extent that it is possible to create pension plans that can invest up to 100% of funds in shares. It is these changes that make future returns on investments look very high in the long term. However, even the pension plan client himself has to work hard a few times in his life to choose a pension plan with an appropriate investment risk profile for his age. For those with 10 or more years until retirement, active plans are more appropriate. The younger a person is, the more equity they can afford in their retirement plan’s risk profile. The reason why many have had to be disappointed in pension level 2 is closely related to the choice of an inappropriate risk profile, which was partly due to the lack of appropriate legislation today and partly to their own mistakes. When investing money for decades, too much conservatism can not only not pay off, but even cause irreversible damage.
This does not mean that conservative pension plans should be eliminated. They also have their place and can be useful for people who plan to retire in the next five years, when preserving existing assets is more important than taking risks and possibly trying to make a profit. In addition, conservative pension plans can also earn well. This was the case in the second half of the last decade, when the European Central Bank sharply reduced interest rates. This could also be the case in the next couple of years, when the currently rising rates will be adjusted downwards and the bond portfolios of conservative pension plans could rapidly become more valuable.
2023-06-12 02:15:06
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