For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 1 Giving provident funds an equity boost Manish Jaiswal – Senior Director July 31, 2015

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 2 Agenda  When India ages, whither pension for all  High savings rate, debt-heavy asset allocation  The retirement industry too favours debt, but high inflation caps real returns  Long-term investment avenue needed for inflation-adjusted returns  Recent regulatory changes bring equity to the provident fund table  But a lot needs to be done

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 3 When India ages, whither pension for all  Nearly 11 crore people are above 60 years; this will triple by 2050 –Every fifth Indian will be a sexagenarian by 2050 compared with one in 12 now  The joint family social security net is fast giving way to nuclear families –From over five people per household in 2001, there were 4.3 per household in 2011  Out of 11 crore retirees, only 0.5 crore are covered under private pension  Fiscal cost could rise to 4% of GDP if pension coverage is not increased

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 4 High savings rate, debt-heavy asset allocation  India’s savings rate, at 22%, is one of the highest in the world –Financial savings account for 7% of total savings –Less than 3% of financial savings is invested in the capital markets  Further, India is a young country –Most of its population is less than 30 years old –This is expected to remain so over the next couple of decades  The country’s asset allocation profile resembles a person nearing retirement – debt-oriented  Thus, it is imperative to reap the demographic dividend

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 5 The retirement industry too favours debt, but high inflation caps real returns  The retirement industry in India primarily invests in debt instruments –Provident funds (PFs) form 67% of the retirement sector’s corpus –Since 1990, average retail inflation has been 7.25% resulting in real return of 3% for PFs 0.00% 2.00% 4.00% 6.00% 8.00% 10.00% 12.00% 14.00% Retail inflation ratePF return

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 6 Long-term investment avenue needed for inflation- adjusted returns  Equity is the best bet in the long term –Equity (S&P BSE Sensex) has returned 15% on average since inception^ –The risk of loss decreases as the investment horizon increases  Globally, too, equity is a preferred investment class for pension money –As per OECD’s annual pension survey, large pension funds had, on average, 31.5% equity exposure, while public pension reserve funds had 30% –Japan, with 23% above 65 years old, has over 11% equity investment in pension assets –Canadian Pension Fund had 50%+ invested in equity in 2013 ^CAGR 20-year rolling returns since 1979

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 7 Recent regulatory changes bring equity to the PF table  Ministry of Labour & Employment has permitted the request for allowing equity in the PF investment basket –It has allowed between 5% and 15% in the equity market as per the changed investment pattern this fiscal  Exposing PF to equity would help align the long-term horizon of the retirement corpus with the asset class

For Internal Use Only – Not For External Distribution © 2015 CRISIL Ltd. All rights reserved. 8 But a lot needs to be done ^ Equity returns assumed at 15% annually  Limited equity exposure –The proposed exposure of 5-15% of equities in PFs is not an optimum financial strategy for a young population –Overall portfolio should have 5% equity exposure by the 13 th year if we start putting 5% incrementally^  Pension penetration needs to grow exponentially and equitably –Increase in pension coverage would aid financial inclusion –Atal Pension Yojana is a step in the right direction but the benefit is insufficient –The government needs to contribute to get a sufficient vesting corpus for the lower strata –A healthy mix of defined benefit (DB) versus defined contribution (DC) needs to be created DC plans for the upper and middle strata, and DB for the poor –Retirement savings need to be mandated and provided with tax benefits  A robust retirement industry can also deepen and widen the capital markets

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