In the last two years of its existence, the National Pension System (NPS) has managed to attract only around 54,000 investors. The sole social security initiative for the sunset years of around 100 million workers of the informal sector, NPS has been struggling to attract investors even as criticism poured in for its poor performance.
Last month, a parliamentary standing committee in its review of the Pension Fund Regulatory and Development Authority Bill, 2011, (PFRDA Bill, 2011) expressed concerns over the uneven and rather poor performance of NPS funds. The panel recommended that the PFRDA exercise stringent monitoring and strictly evaluate the performance to ensure stable returns.
Graphic By Yogesh Kumar/Mint
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But are these issues a matter of concern for NPS investors? Should you stop investing in NPS? To give you a logical answer to such questions, we worked out the returns of each of the six NPS fund manager since their inception and for the last one year. In the process, we spotted certain factors that are affecting the returns.
Uneven returns: According to PFRDA guidelines, fund managers can invest in index funds that replicate the portfolio of either Sensex or Nifty. So the fund manager can either track the index directly or invest in index funds that invest in all the scrips—in the same proportion in which they lie—in the benchmark index. Though all the fund managers invest in the same index, the returns vary hugely (see table). This is primarily because of different inception dates. While NPS was launched on 1 May 2009, funds started coming in only later and each fund manager received funds on different dates.
Tracking error: However, that alone doesn’t explain the difference in returns. We compared the funds to their benchmarks in order to see how well they had tracked the index. While the tracking error or difference of return with respect to the benchmark remained within a percentage point for many funds, SBI Pension Funds Pvt. Ltd showed a tracking error of 15.29 percentage points.
To calculate the return of the benchmark we took values of the previous day considering many fund managers invest indirectly through asset management companies and there is a time lag of a day. While the benchmark S&P CNX Nifty returned an impressive 16.81%, SBI Pension Funds returned only 1.51% during the same period (since the fund’s inception). A tracking error of more than a percentage point would have spelt trouble for a mutual fund (MF) but in case of a pension fund, the conclusion is a bit more layered. Explains an official from SBI Pension Funds: “Tracking error is a standard deviation from the benchmark returns assuming the asset sizes in both cases are the same. Having enough corpus will enable a fund manager to invest in stocks in the same weightage as that of the index. However, in our case the cash flow is uneven as there is paucity of funds. Due to this shortage of funds, we are not able to track the index. There are periods when we are not able to invest in the market at all and we sit on cash. All this results in a tracking error.”
Unlike MFs that are able to collect a huge corpus during the fund offer stage, NPS fund managers struggle to get the necessary quantum. As on 31 August 2011, the total asset under management (AUM) of the six fund managers from the informal sector was Rs 118.11 crore. Says Dhirendra Kumar, CEO, Value Research, an MF data tracker: “In order to replicate the weight of stocks comprising the Sensex, a minimum of Rs 4.5 lakh is needed. Since Nifty consists of more stocks, the minimum requirement would be more.” And pension funds do not have that much money. Says the SBI Pension Funds official: “Because of lack of funds we are not able to track the index accurately and this has resulted in a lot of tracking error in terms of returns since inception. Right now the tracking error reflects shortage of funds more than anything else, but if you look at the last one year return it will give you a better picture.”
In order to get closer to the real picture, we looked at last one year’s returns, which are stable. Among the fund managers, the difference between the highest and the lowest return is around 2.86 percentage points while the maximum tracking error is 1.73 percentage points. Explains Kumar: “For the purpose of calculation, the returns from the indices, total return or dividend-adjusted return should be considered. There could be a difference of 1-1.5 percentage points if the returns from the index are not dividend adjusted. Hence, a tracking error of 1-1.5 percentage points is negligible.”
A variation in return owing to lack of funds has affected NPS’ debt scheme, too. Says a PFRDA official: “The timing of the inflow is a big factor. Fund managers are not able to buy bonds because of lack of funds. For instance, the market lot for government bonds is Rs 5 crore and the fund manager doesn’t have sufficient funds, he ends up investing in money market instruments.”
But there are other factors at work too: the quality of papers and duration. In the corporate bonds scheme C, PFRDA has allowed the fund managers to invest in bonds which carry at least a “BBB” rating. A low-rated bond typically yields higher returns. Even the duration impacts the return. Prices of long-term bonds tend to fluctuate more than the prices of bonds with shorter maturity periods. So in a rising interest rate scenario, the price of a long-term bond reduces more than the price of a short-term bond.
This gets reflected in the daily net asset values (NAVs), which are marked to market. In the corporate bonds space, SBI Pension Funds has given the highest returns while Reliance Capital Pension Fund Ltd has given the lowest. The performance of the funds could be due to a mix of all the factors mentioned above. It was difficult for us to analyse the performance as the pension fund companies don’t disclose their portfolios.
Even under scheme G (government bonds), apart from the duration, the quality of government bonds cause a variation. The pension fund managers can invest in government bonds and state government bonds. State government bonds yield a higher return but are usually more illiquid. However, PFRDA has cautioned fund managers from investing too much in state bonds. Says the PFRDA official: “We are evaluating the portfolios of fund managers on a quarterly basis and have asked them to limit their exposure to state government bonds since it lacks a sovereign guarantee.”
However, it is very difficult to analyse the performance of these funds as the portfolios of these funds are not disclosed.
These are very early days to draw any logical conclusion on the returns. Says Kumar: “Till such time NPS achieves the minimum threshold scale, one can’t draw any logical deduction from the numbers that funds performance throw.”
But as things stand today, NPS suffers from issues of transparency. Historical NAVs are not available for some fund managers. Benchmarks are not disclosed and neither is the portfolio. PFRDA has much in its hands to bring about disclosures in NPS for the benefit of the investors.
Should you invest?
Considering a fund management charge of 0.0009% per annum and an excellent structure that instills financial discipline, NPS is a good investment vehicle for conservative or balanced investors.
You can start with a minimum investment of Rs 6,000 per annum and your investments are locked in till 60 years of age. You can choose among three funds, equity fund (E), corporate bonds (C) and government bonds (G). The maximum you can invest in equity scheme is up to 50%. Consider investing up to 40% of your retirement savings in NPS.