This article first appeared in The Edge Malaysia Weekly on November 23, 2020 - November 29, 2020

YET another sign of extraordinary times, there is actually worry that the Employees Provident Fund (EPF) — the world’s 12th largest pension fund with more than RM930 billion in assets under management — may need to sell more of its assets than it initially planned to meet a possible surge in cash-flow needs of its members hit by the Covid-19 pandemic. Is there actually a deep cause for concern? How would it impact the dividend of 14.8 million EPF members for 2020?

On Nov 16, EPF estimated that it would need to set aside up to RM15 billion for the i-Sinar Account 1 cash advance facility for up to two million of its active members who have lost their jobs, have been given no-pay leave or have no other sources of income. This is significantly higher than the figures — RM4 billion for 600,000 EPF members who have lost their jobs or are badly affected by the pandemic — mentioned by Finance Minister Tengku Datuk Seri Zafrul Tengku Abdul Aziz when tabling Budget 2021 on Nov 6.

The RM11 billion to RM15 billion that EPF expects to set aside for i-Sinar — which works out to between RM5,500 and RM7,500 each for the two million potential applicants — is on top of the RM30 billion the provident fund had expected to set aside for the i-Lestari Account 2 facility, which allows members to make monthly withdrawals of between RM50 and RM500 from April 2020 to March 2021.

Collectively, the RM45 billion (RM15 billion + RM30 billion) is 4.8% of EPF’s investment assets of RM929.64 billion as at end-June this year.

If one assumes that EPF could get at least a 5% return on investment per annum from that RM45 billion, the potential loss in returns would be RM2.25 billion — which would have reduced EPF’s 2019 dividend to about 5.15% instead of 5.45%, given that it needed RM8.5 billion to pay every 1% of dividend in 2019, our back-of-the-envelope calculations show.

The potential foregone income gets more painful with the threshold to pay every 1% of dividend increasing every year. Even if that RM45 billion were lent to the government at 3%, EPF would have earned RM1.35 billion per annum in interest. By allowing more withdrawals, EPF also has less money to buy government debt or take advantage of price dips in the equity and real estate markets.

There is also the opportunity cost for EPF to earn from the RM8 billion “released” back to members for consumption boost to the economy from the reduction of the statutory employee EPF contribution rate to 7% from 11% from April to December this year (75% take-up of the RM10 billion estimated by the government) plus some RM9.3 billion that the government estimates will be “released” into the economy from the reduction of the statutory employee EPF contribution rate to 9% from 11% for 2021.

It remains to be seen if that RM30 billion estimated for i-Lestari Account 2 withdrawals — for which its chief investment officer Rohaya Mohammad Yusof told reporters EPF had been preparing its portfolio since March — is an over-estimation, given that EPF members can still apply to withdraw savings from Account 2, which constitutes 30% of the statutory savings for wage earners in the private sector.

About RM11.69 billion had been withdrawn from Account 2 over seven months by 4.72 million members via the i-Lestari facility as at Nov 6, according to the Ministry of Finance’s Laksana report dated Nov 19. That leaves RM18.31 billion or 61% of the RM30 billion that EPF estimates it would need for more i-Lestari Account 2 withdrawals in the remaining five months.

EPF only needs another RM9 billion (and not RM18 billion) for i-Lestari Account 2 withdrawals until March 2021, if the pace of monthly withdrawals remains at about RM1.8 billion as seen for August, September and October, our back-of-the-envelope calculations show. That said, at its peak, some RM3.5 billion was withdrawn in July via the i-Lestari Account 2 facility, our compilation of Laksana data shows. The number of applicants for i-Lestari should not be more than 5.2 million when the i-Lestari facility ends in March, if the number of monthly new applicants remains below 100,000 as they did the past three months.

If our estimate of RM9 billion for i-Lestari is right, EPF only needs another RM6 billion, and not RM15 billion, as a cash buffer for i-Sinar.

The burden to raise additional pre-emptive cash buffers would be less of a concern if the monthly net inflow of cash into EPF recovers next year.

EPF gets roughly RM1.7 billion in net inflow of cash on average every month, with contributions always exceeding withdrawals by RM600 million to RM3 billion a month between January 2015 and December 2019, official data shows.

Reflecting the Movement Control Order (MCO) imposed nationwide from March 18 to May 3 during which unemployment spiked to as high as 5.3% or 826,100 persons in May, gross EPF contributions fell by about RM1 billion month-on-month to RM5.4 billion in May even as withdrawals rose, causing May (April salary) to book a small but rare RM19 million net withdrawal. EPF also gave more time for employers to remit their monthly contribution from March to December this year.

Net contributions to EPF (the difference between gross contributions and withdrawals) recovered to RM11 million in June and RM415 million in July but were still a far cry from the RM2.1 billion to RM5.5 billion of monthly net contributions from January to April.

It is not immediately known why data on EPF net contributions was no longer available on Bank Negara Malaysia’s website at the time of writing. EPF had yet to respond to requests for the said data for the months of August to October at press time.

Going by the persistent debate on who should and should not be eligible for EPF Account 1 withdrawals ahead of the vote for Budget 2021 in parliament on Nov 25, the wildcard on just how many would be allowed to take money out is how the people who are badly affected by the pandemic will be defined.

While the official number of unemployed persons had reduced to 737,500 with the unemployment rate at 4.6% in September, more than 4.7 million had asked to withdraw money from their EPF Account 2 via i-Lestari, which did not impose restrictions like for i-Sinar Account 1. This is despite more than 2.64 million employees benefiting from RM12.26 billion approved under the Wage Subsidy Programme as at Nov 6.

It remains to be seen if the eligibility of this EPF Account 1 facility would also be extended to other members who are affected by the pandemic, including those who have seen their own income or their household income significantly reduced. If i-Sinar remains only for members who have lost their jobs or have been furloughed, the simplest way for EPF to check and release funds will be the status of a member’s monthly contribution.

Yet, if news flow of the debate over Account 1 withdrawals is any indication, there is pressure for EPF to also allow more members to dip into their Account 1 savings as well as pushback from those asking the government to find other ways of helping them instead of allowing them to use savings meant for retirement.

It seems that there is disagreement even within the Malaysian Trades Union Congress (MTUC). Its national deputy president Mohd Effendy Abdul Ghani told Sinar Harian on Nov 15 that he welcomed the Account 1 withdrawals while the MTUC Sarawak secretary and Sarawak Bank Employees’ Union CEO Andrew Lo implored policymakers to “remember that private-sector employees [who are EPF members] do not have a pension when they retire, unlike civil servants, ministers and members of parliament”.

“Please don’t kill the patient to cure the disease” was the headline as well as closing for Lo’s statement dated Nov 18, which noted how the portfolio adjustments that EPF needs to make to set aside billions of ringgit for these extraordinary withdrawals to cushion the impact of Covid-19 “would mean that EPF would lose a great opportunity to take advantage of investing in high-quality assets with low valuations” — a move that “will impact future earnings and investment quality of EPF and compromise dividend payouts”.

“Most disturbing, it compromises the ability of EPF to serve its sole purpose of providing for the retirement savings of its contributors,” Lo said in the statement, reminding that retirement savings “must not be sacrificed for immediate gratification”.

To allay concerns over the need for it to liquidate some assets and rebalance its portfolio, EPF says it is always cognisant of the market impact of its actions and reminded that it regularly looks out for opportunities to buy as well as sell assets, given that dividends are declared from realised and not paper profits. Its investment decisions are always based on its strategic asset allocation (SAA) framework that optimises returns within tolerable risk limits, EPF adds.

To optimise its long-term returns within tolerable risk limits, EPF’s SAA allocates 51% to fixed-income instruments (for capital conservation), 36% to equities (for capital improvement), 10% to real estate and infrastructure (for capital conservation and improvement) and 3% to money market instruments (for capital conservation and liquidity management).

Of EPF’s RM929.64 billion in investment assets as at end-June, 49.2% (RM457 billion) were in fixed-income instruments, 38.2% (RM355 billion) in equities, 7.2% (RM67 billion) in money market instruments and 5.4% (RM50 billion) in real estate and infrastructure. Some 30% of its investment assets are overseas and that contributed 39% of the RM15.12 billion in total gross investment income in the second quarter.

It is not immediately certain if the RM32 billion quarter-on-quarter increase in EPF’s holdings of money market instruments of RM67 billion as at end-June, compared with RM35 billion as at end-March, had anything to do with the provident fund’s need to prepare more upfront liquidity or cash buffer to cater for potential withdrawals. This is given that EPF also held about RM65 billion or 7% of its portfolio in money market instruments as at end-2019, compared with about RM48 billion (4.2% of total portfolio) as at end-2018 and RM33 billion as at end-2017 (4.2% of total portfolio). There was also a sizeable asset write-down in the first quarter of 2020, which saw net investment income at RM7.5 billion compared with its gross investment income of RM12.16 billion.

Yet, the fact that 7.2% of its investment assets were in money market instruments — more than double the 3% under its SAA — could well already reflect EPF’s preparedness to cater for the possible rise in withdrawals.

The bad news here is that money market instruments traditionally bring in less returns than its proportion of asset allocation, a quick check of EPF’s annual performance across asset classes the past 15 years show.

In 2019, for instance, investments in money market instruments made up 7% (RM64.7 billion) of total asset allocation but only brought in 3.9% (RM1.94 billion) of gross investment income. As at end-June, money market instruments accounted for 7.2% (RM67 billion) of total asset allocation but only brought in 2.9% (RM800 million) of gross investment income in the first half of the year (1H2020).

Fixed-income instruments, which are low risk for capital preservation, also bring in less income than the proportion of assets in EPF’s portfolio. As at end-June, fixed income instruments accounted for 49.2% (RM457 billion) of total asset allocation but only accounted for 40.5% (RM11 billion) of gross investment income in 1H2020. In 2019, fixed-income instruments accounted for 49% of assets but only 43.1% of gross investment income. Investment in Malaysian Government Securities (MGS) or debt paper issued by the government is an example of fixed-income investment.

Equities, which are relatively higher risk, made up 39% of total assets in 2019 but brought in 46.7% of total gross investment income last year. Equities brought in 53% of gross investment income in the first half of 2020 while accounting for only 38.2% of investment asset allocation as at end-June.

Last year’s dividends of 5.45% (conventional savings) and 5% (shariah savings) were already EPF’s lowest headline showing since 4.5% in 2008, when the amount needed to deliver 1% of dividend was RM3.18 billion. While a dividend that is lower than 4.25% for 2020 would push EPF dividends to the lowest level since 1962, it is still better than the 12-month fixed deposit rates that are below 2% at most banks currently.

EPF’s net investment income for 1H2020 was RM20.96 billion. If we simplistically assume that EPF would be able to at least match its performance in the first half of this year and does not need to make large write-offs or provisions at the end of the year, it would have enough to give a 4.5% dividend for 2020, our back-of-the-envelope calculations show — that is if the amount EPF needs to declare 1% of dividend to members rises to RM9.2 billion this year from RM8.5 billion in 2019, The Edge’s own estimate of EPF’s historical fund growth trajectory, which could well differ this year owing to the pandemic, shows.

Traditionally, EPF releases its 3Q results between late November and mid-December.

For the record, EPF only needs to deliver a nominal dividend of at least 2.5% per annum and beat inflation by at least 2% on a rolling three-year basis. Malaysia expects headline inflation to average -1% this year before averaging around 2.5% in 2021, according to the 2021 Economic Outlook report.

Even without Covid-19, the challenge for managers of retirement funds like EPF to grow was already greater with interest rates being near all-time lows.

EPF’s performance matters not just for those still working to save up but also retirees counting on dividends to stretch their savings.

The provident fund should have at least one million retirees or inactive members counting on their EPF savings and dividend for their income, if one were to assume that the top 20% still have at least RM50,000 saved with the fund. This is given that only about 20% of members fulfil EPF’s basic recommended savings of RM240,000 while close to 80% do not have enough saved by the time they turn 55.

Only about half of EPF’s 14.8 members are active members, with two-thirds of the total savings of about RM933 billion with active members versus one-third with inactive members. Due to generally low wages and low savings for many wage earners, 50% of retirees exhaust their savings within five years of retirement — even before the recent spate of reductions in statutory contributions — says EPF.

According to EPF’s statement on Nov 16, payments for i-Sinar are expected to be made by the fund from January to June 2021, with the first monthly payment being the largest at up to RM4,000 for those with less than RM90,000 savings in Account 1 and up to RM10,000 for those with more than RM90,000 savings in Account 1. Eligible members with less than RM90,000 in Account 1 can advance up to RM9,000 so long as there is at least RM100 left in their account while those with more than RM90,000 in Account 1 can advance up to RM60,000 or 10% of their Account 1 savings over six months.

There is no timeline for members to replenish the amount advanced from their Account 1 but they would lose out on the dividend and compound returns of the money taken out. A 30-year-old who takes out RM9,000 under i-Sinar today would have seen that money become RM24,000 by age 55, with the compounding power of EPF dividends at 4% per annum.

While someone earning RM2,000 a month would only need about two years to replace the RM9,000 withdrawn from Account 1 (assuming the contribution from the employer also accrues 100% to Account 1 before reverting to 70:30 until the amount advanced via i-Sinar is replaced), it would take about five years of contributions to replace RM24,000. If only the employees’ portion is counted towards replenishing the amount taken out from Account 1, it would also take close to four years for the person to replace the RM9,000.

There may well have been instances where withdrawals from Account 1 and 2 could have been avoided if the people were more informed, says an observer, noting that people with bank loans only need to go to the bank and say their income had been impacted to ask for their loan repayments to be restructured. He also notes that there are loans for micro, small and medium enterprises (MSMEs) and only about RM1 billion of the RM2 billion allocated by the government under the Penjana SME Financing scheme had been utilised.

Another observer raised the question of allowing withdrawals without proper checks when pointing to a Harian Metro report dated Aug 15, which quoted an anonymous person had been nabbed by the police for using the RM1,000 withdrawn via i-Lestari Account 2 to buy ecstasy pills to sell.

Even so, there are people with genuine needs. The fact that this debate on allowing people below the age of 55 to withdraw money from EPF Account 1 is ongoing points to gaps in the country’s social safety net, which is relevant even if you are not among EPF’s 14.8 million members. After all, if public aid were adequate, there would be no need to prematurely tap one’s retirement funds. This general unpreparedness will return to roost, if it has not already.

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