March’s market massacre revisited
CAPE TOWN - The government's finances are under further severe strain as Public Investment Corporation (PIC) managed Government Employees Pension Fund (GEPF) assets buckled under the Covid-19 sell-off in March.
The actuarial valuation of the fund effective March 31 is probably under way and the results likely by December this year. As in the past, the economic assumptions will be based on the market conditions as at March 31.
At the end of March this year the massacre of our financial markets probably wiped off nearly R250billion from the GEPF’s JSE-listed equity values compared to a year ago, and even more than that since the last actuarial valuation in March 2018.
Losses on local bonds based on the clean prices of the Albi could amount up to R60bn or more. Just on the local side it meant that net assets would have dropped by R300bn to R1500bn from R1800bn, reducing reserves to R420bn from R720bn previously. If the fund’s liabilities remained the same, the fund ran the risk that the GEPF’s funding level of liabilities and reserves could have dropped to about 90 percent from 108 percent in March 2018.
Furthermore, the funding level of liabilities could have dropped to 63percent from 76percent in March 2018. According to the GEPF’s 2019 integrated report, the fund’s Funding Policy requires that the board ensures that the funding level of liabilities is above 90percent.
This is in line with Rule 7.2 of the Rules of the Fund, which states that the employer contributions should be sufficient to ensure that the fund is able to meet its obligations at all times, subject to a funding level of liabilities of at least 90percent. The funding level of liabilities is the fund's financial gauge. The higher the funding level, the better the financial situation. While the results of the March 2018 actuarial valuation show that the fund is 108.3 percent funded, it meant that the fund had sufficient assets to cover the actuarial liabilities in full.
With the apparent current funding level of about 90percent, the actuaries are likely to conclude that the GEPF is underfunded - probably to the extent of 10percent of total liabilities and reserves. By using the best-estimate liabilities and reserves, according to the results of the 2018 actuarial valuation, a 10 percent underfunding or deficit equates to R238bn. Yes, it is massive and is more than 50percent of Eskom’s stated debt.
To get an indication of the GEPF’s probable financial position as at the end of March, I focused on the fund's JSE-listed equity holdings and offshore holdings with a secondary listing on the JSE, and assumed that the holdings as at the end of March 2018 were unchanged.
More than 95 percent of the JSE-listed equities were covered and major corporate actions in companies such as Remgro, RMB Holdings, Capevin/Distell, Clover, Imperial, Investec, Lonmin, Old Mutual and Naspers were taken into account in the calculation of the fund’s effective 2018 JSE-listed equity portfolio values. Income distributions such as dividends were excluded.
By looking at the number of shares out on lending by the fund I accept that the fund managers were probably active in the derivatives market and took out protection. The impact of such activities could have added to or reduced the value of the portfolio.
Where did it all go wrong?
According to my calculations the GEPF’s total 2018 JSE-listed equity portfolio contracted by about 28percent in capital value from March 2018 to the end of March this year.
Banks contributed -5.2 percent to the loss, Chemicals 3.5 percent and Reits 3.3 percent. Nine Reits, namely Rebosis, intu, Delta, Accelerate, Dipula, Fortress, Hyprop, Hammerson and Redefine lost more than 80percent in value. Some of the Reits that were considered as making up the Resilient stable of companies, saw their share prices plummet as they were considered to be overvalued and that their dividend growth was propped up by related party deals.
The blow was softened by the GEPF’s mining exposure in its JSE-listed equity portfolio as the sector contributed a positive 3percent to the portfolio’s overall capital return. Naspers also had a major impact with a positive contribution of 0.9percent, and so did Clicks with a positive contribution of 0.3percent.
Sixteen shares lost more than 90percent in value and cost the JSE listed equity portfolio 4.8percent and was dominated by Sasol with a draw-down of 91percent, which reduced the portfolio’s value by 3.3 percent. AYO cost the listed portfolio 0.4 percent, intu cost 0.3percent, Erin Energy cost 0.2 percent and Tongaat cost 0.2percent. Eighteen shares lost between 80 and 90percent in value and cost the equity portfolio 1.2 percent in aggregate with Hyprop 0.3 percent, Massmart 0.2 percent and KAP 0.2 percent; 22 shares lost between 70 and 80percent and cost the equity portfolio 4percent in value. Redefine cost 0.7percent, Nedbank 0.7percent and Sappi 0.5percent.
The recovery in the markets subsequent to the sell-off in March saw the GEPF’s 2018 JSE-listed equity portfolio recover by more than R105bn ex Naspers while Naspers, including Prosus, added a further R56bn in value by the close on Friday. Naspers and Prosus now constitute about 31percent of GEPF’s JSE listed equities.
In terms of the GEPF Law and the Rules of the Fund, an actuarial valuation must be carried out at least once every three years. In the past the valuation was done every two years. In light of the South African government’s precarious financial situation, it may be decided to postpone the actuarial valuation by another year. A further recovery in financial markets may wipe out the funding shortfall and additional funding by the State will not be necessary.
Over the past few years shortfalls in required contribution by the State amounted to about R6bn a year and were afforded from the excess of the assets over the best-estimate liabilities. It is evident that the current funding level will not allow for the shortfalls to be funded from the GEPF’s net assets. The state will therefore need to stand good for a possible R6bn.
It is important to note that GEPF members’ benefits will not be affected by the apparent or possible underfunding given that the GEPF is a defined benefit fund. There is a serious threat that should markets head south again the SA Government will be forced to add to the reserves of the fund.
Yes, the impact of the Covid-19 virus on government finances could be more severe than planned for.
Ryk de Klerk is analyst-at-large. Contact [email protected] His views expressed above are his own. You should consult your broker and/or investment adviser for advice.