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Asset Management/Pension
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보고서 1
Outsourced Chief Investment Officer Market: Growth Potential and Need for Full Discretion [22-22]
Research Fellow Nam, Chaewoo / Nov. 08, 2022
Korea’s Outsourced Chief Investment Officer (OCIO) market has grown on the back of public funds and is now diversifying its client base into private companies and foundations. As a way to enter the oligopolistic OCIO market, some financial services firms have tried to open up a new niche market, leading to such diversification. This article has estimated the accurate market size based on data provided by OCIO service providers. As a result, Korea’s OCIO market is projected at KRW 132 trillion as of end-August 2022. In the OCIO market, 85% of assets under management are still concentrated in public funds (KRW 112 trillion) but the proportion of private companies and public organizations has increased noticeably to 6% and 5%, respectively. The segmented OCIO market defined as a target market is expected to continue expanding into public institutions including public enterprises, rather than into private companies or mutual aid associations. What gains the most attention is the segmented OCIO market for retirement pension funds, which has particularly prompted securities firms to advance into the OCIO sector. But the market still amounts to no more than KRW 2 trillion. In this respect, institutional reform is required to encourage DB contributions to flow into the OCIO market.    

Despite this quantitative growth, Korea’s OCIO scheme (K-OCIO) has structural limitations in that its role is confined to the execution of funds, which inhibits the OCIO model from providing a comprehensive asset management solution to OCIO service users. This can be attributable to the partial discretion scheme adopted by the K-OCIO. The full discretion model should be widely adopted to fully serve the OCIO’s goal of using external experts and stimulate healthy competition between trustees. To this end, this article recommends the use of the referent portfolio, selected by the Seoul National University Development Fund. The reference portfolio scheme, extensively used by Korea’s National Pension Fund and foreign public pension funds, is an effective tool to implement the full discretion OCIO model aimed at entrusting independent financial institutions with the top-level strategic decision-making process including the Strategic Asset Allocation (SAA). Full discretion can be implemented based on a trustor’s confidence in a trustee’s investment capability. It is notable that the OCIO scheme designed for supervision, instead of management, would end up delivering low operational efficiency.          
보고서 1
Discussions on Sustainability Disclosure by Collective Investment Vehicles [22-18]
Senior Research Fellow Lee, Inhyung / Oct. 04, 2022
After recognizing greenwashing and investor protection as critical issues, financial authorities of major economies have recently worked on administrative restrictions and legislative bills to meet the related challenges. As part of these efforts, the European Commission adopted the Regulatory Technical Standards (RTS) for implementing the Sustainable Finance Disclosure Regulation (SFDR), while the US Securities and Exchange Commission (SEC) released the regulation mandating ESG disclosure by investment advisers and investment companies.         

A wide range of funds are subject to ESG disclosure. All funds managed within the EU should in principle describe sustainability risks and major adverse impacts in the format and template set forth by the RTS at the level of both GPs and funds. If they fail to do so, the reason for non-compliance should be explained in detail. In the US, a broader definition of ESG funds by the SEC could make most funds subject to the ESG disclosure regulation. Notably, the EU and US have adopted the principle of proportionality in their ESG disclosure rules, meaning that how much impact sustainability factors have on investment decisions determines the level of information to be disclose.    

It might be difficult for Korea to bring its ESG disclosure practices up to the level of the EU’s scheme in a short period of time. Hence, a more practical alternative would be the establishment of guidelines for effectively encouraging ESG-related information disclosure, based on the existing regulatory framework for better investor protection and greater responsibility for asset managers as specified in the Financial Investment Services and Capital Markets Act. But separate guidelines should be devised only if ESG is represented or mentioned in the name and prospectus of funds.

ESG funds should provide a detailed description of the investment type and method and periodically report the process and results of investments. The internal control system is necessary to guarantee the participation of professionals for sustainability analysis and integrity of data being used. Additionally, a due diligence process should be arranged if a fund depends on third-party service providers for data and analysis. ESF funds also need to adopt a benchmark that aligns with sustainability features pursued by them and if they engage in shareholder activities for ESG agendas, they should inform investors of such agenda items and the implementation process and report whether the goal of shareholder activities is achieved on a periodic basis.        
보고서 1
Reforming Korea’s Multi-Pillar Pension system for Increasing Income Replacement Rates [22-15]
Senior Research Fellow Song, Hong Sun / Aug. 16, 2022
This article aims to explore the pension scheme reform to achieve a higher income replacement ratio. As Korea’s combined income replacement ratio ranges from 57% (DC plans) to 61% (DB plans), reform for post-retirement income security should be directed toward achieving higher replacement ratios to ensure a post-retirement life with reasonable living standards. However, given the predicted depletion of pension assets, the public pension reform should focus on how to achieve stability of replacement ratios between generations (financial sustainability). Furthermore, it is necessary to overhaul private pension plans that could help raise income replacement ratios by boosting returns without additional premium payment in order to increase the contribution level within the multi-pillar pension scheme. 

Even if the return is maximized through the reform of fund management, the pension fund depletion could be postponed by two to five years at most since the National Pension fund is drying up at a rapid pace. This necessitates an increase in the contribution to achieve financial sustainability. Notably, advanced management of pension assets could reduce the contribution burden significantly, considering that it is expected to generate additional profits that could be translated into 12 to 20 years’ worth of contribution income. In this respect, what is needed is social consensus for raising the contribution level. To this end, how to share the burden of fund deficit should be established and the contribution that the government and the national pension fund could make as trustees through the fund management reform should be reflected in actuarial valuation before the long-term contribution rate is determined. 

If private plans—highly inefficient in asset management, compared to the public pension contributions—are overhauled, it is likely to drive up the income replacement ratio without any additional costs. If Korea enhances its pension scheme to the level of advanced economies by introducing fund-type retirement plans, the replacement ratio could climb by up to 5%p to 11%p, approaching the internationally recommended combined replacement ratio of 66% to 68%. Therefore, further discussions of pension reform should center around a multi-pillar approach encompassing public and private pension plans to devise an optimal policy mix for adequate post-retirement income security and the public pension’s financial sustainability.             
보고서 1
Overhauling the DC-type pension scheme for strengthening the old-age income safety net [22-03]
Senior Research Fellow Song, Hong Sun / Feb. 14, 2022
The single-tier pension scheme has historically evolved to the multi-pillar system, which can be summarized as a transition from DB (defined benefit) plans towards DC (defined contribution) plans. The US and the UK have focused on pure DC-type plans, while European nations have developed hybrid pension plans combining the characteristics of both DB and DC plans. Regardless of the types, the growth of the DC plan would undermine the old-age income safety net because it requires employees, not the government or employers, to take greater responsibility for the post-retirement income security to support those without the ability to work. Employees should take investment and inflation risks that may be posed in the course of pension assets accumulation. Furthermore, the burden of determining the transition to an annuity and managing longevity risks should be borne by employees. This implies that the DC plan has become mainstream not because it serves as an old-age income safety net but because there are limitations on the growth of the DB plan.
For these reasons, markets, industries, governments, and international organizations have already made efforts for regulatory reform on the DC plan. Mandatory or automatic enrollment into the retirement pension has been widely adopted to overcome the limitations of private pension plans. In addition, a default option or a hybrid pension scheme has been introduced to manage investment risks, and institutional incentives are increasingly provided in an effort to curb the outflow of retirement funds and to encourage the transition to an annuity. These measures have been implemented through monetary incentives or institutional enforcement, albeit to varying levels.
In Korea where DC plans including IRPs account for 40% of pension assets, there are discussions about how to strengthen the function of DC plans as the post-retirement income security, which, however, have not yielded fruitful results. Korea’s retirement pension scheme has an underdeveloped contract-based pension fund governance, complicating discussions for enhancing pension scheme-related institutions.
To remove marginalized groups in the pension scheme, Korea needs to mandate enrollment into pension plans by shifting from the current severance pay scheme towards the retirement pension system, rather than adopting mandatory or automatic subscription selected by advanced countries. Furthermore, the requirements to join pension plans, which are tougher compared to other countries, should be eased to facilitate a more inclusive retirement pension system for the whole nation including the self-employed and non-regular workers in the long run. Recognition of losses and expenses in excess of contributions and direct support for pension contributions should be applied to small business entities with a greater burden of introducing the pension scheme, aiming for creating the long-term virtuous cycle in terms of business management and welfare.
Concerning the pension management reform to improve low returns, the introduction of the fund-type pension scheme may not be efficient for DC plans where plan members have the right to entrust pension asset management. In response to this problem, advanced countries have introduced a default option under which the right to manage plan assets is given to plan providers (experts) if certain conditions are met, or have adopted a hybrid pension scheme that entrusts experts with plan asset management in the pension plan designing stage, as is the case with the DB plan. It is desirable for Korea to embrace both of the two institutional tools to offer options to plan members. Under the circumstances, Korea should consider mandating a default option as Australia, the UK, and the US do, or needs to have an exemption system to show a strong commitment to facilitating default options. It can also benchmark Japan’s pension system for introducing a default option system comprised of investment products to overhaul the principal-protected retirement pension scheme. Furthermore, it should allow competition with the SME retirement pension fund that has adopted a hybrid pension scheme to reorganize the plan providers-driven retirement pension market into the plan members-driven market where plan providers compete for higher returns.
With regard to the annuitization, it is the global standard among advanced countries not to mandate the annuitization for a pure DC plan. Thus, there seems to be no alternative other than to minimize the lump-sum pension withdrawal by offering a wide range of options for plan assets in excess of a certain amount such as programmed withdrawal and a life annuity. However, it is notable that Korea’s low annuitization rate is attributable to the fact that IRPs can be freely canceled, not to excessive interim payments from DC plans. Thus, the IRP cancellation should be limited to the level of advanced countries over the course of pension asset accumulation through policy measures such as a relevant tax regime or withdrawal limits. Moreover, institutional tools should be reformed for promoting annuitization through innovation of products and services including the combination of an annuity and a default option product, innovation of programmed withdrawal, and rationalization of high annuitization costs. As for the SME retirement pension fund that can be collectively operated by hybrid pension plans, it is necessary to examine the introduction of a default annuity to significantly cut down annuitization costs.