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2023 Oct/11
Eligible Pre-Designated Products for Retirement Pension Management: Characteristics and Implications
Issue Papers 23-18
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- Research Topic Asset Management/Pension
- Page 22
- Summary
- The Korean-style default option (K-default option) has been introduced as a pre-designated retirement pension system, prompting the need for a comprehensive discussion on various policy options crucial for its establishment. The focal point of the discussion is a clear understanding of the new system’s characteristics. Notably, the pre-designation of retirement pension plans, operating under an opt-in scheme with explicit investment instructions, diverges from traditional default options as it lacks the nudging element. Instead, the pre-designation scheme aims to encourage defined contribution (DC) plan participants to build a reasonable investment portfolio, positioning itself as a mechanism to utilize representative products rather than default options for portfolio construction.
This pre-designation retirement pension scheme mirrors the representative product system that includes principal-protected products. Concerns voiced in the scheme design stage have become a reality six months into full-scale operation. Employees who display limited interest in pension asset investment face difficulties in selecting investment-linked eligible products (low, medium, high risk) based on risk appetite, leading to over 88% of eligible employees to opt for the principal-protected type (ultra-low risk). In terms of pension asset management, it is crucial to adopt a management strategy with an appropriate level of risk and reasonable risk premiums. Hence, improvements in the scheme are essential to ensure that products eligible for pre-designation align with the implementation of this management strategy.
An analysis of risk-return profiles of eligible products reveals that the majority have secured an appropriate level of risk and risk premiums in terms of medium-term returns of three years or more. The analysis further indicates that as risk increases, the risk-adjusted return (Sharpe index) tends to rise. This suggests that it could be effective to adopt a strategy of selecting products based on expected returns required by individual retirement planning. However, it is worth noting that inefficiencies in the composition of portfolio products, predominantly comprising most eligible products, can pose challenges. This is because portfolio products, presented as a combination of Target Date Funds (TDFs), rarely comply with the current scheme’s requirement to maintain a specific risk level. To build an effective portfolio, it is recommended to utilize funds that target specific risk levels, such as Balanced Funds (BFs) or Target Risk Funds (TRFs). Alternatively, using a single retirement date TDF, rather than a portfolio-based TDF, is desirable for optimal results.