One major effect of the capital market crisis upon
the public's financial assets portfolio structure has
been the investment switch from provident funds to
savings schemes. Since the beginning of 1995, net money
withdrawals from the provident funds have amounted to
more than NIS 8 billion, the greater part of which has
been diverted into investment in savings schemes. The
balance has gone to finance the economy's recent consumer
binge.
Facilitating the massive outflow of moneys from the
provident funds was the fact that more than 50% of
members' moneys in the provident funds today are liquid,
i.e. subject to withdrawal on demand. If people are
switching from the provident funds to savings schemes, it
is mainly due to their disappointment with the low
returns of the provident funds (especially in 1994, when
the funds posted negative inflation-adjusted returns),
occasioned, of course by the downslide in the quotations
of TASE-traded shares and debentures, and their wish to
divert the funds into a channel giving an assured yield,
unexposed to stock exchange risks - namely the savings
schemes.
The decision as to whether to withdraw moneys from
one's provident fund and invest them in a savings scheme
is particularly important considering that these moneys
generally constitute a material component of one's
investment portfolio, and that the decision is
irreversible - a provident fund from which the moneys
have been withdrawn is no longer open to new
deposits.
Today we shall review the factors relevant to deciding
whether or not to withdraw liquid funds from a provident
fund and invest them in a savings scheme.
Yield - provident funds do not assure any
return, and a forecast must therefore be constructed
based on an analysis of the funds' asset composition.
More than 80% of the funds' assets are invested in index-
linked assets (debentures and deposits). Average internal
rate of return on these assets today is 4.2% per annum,
giving 3.5% per annum net of management fees. To this
figure should be added the share component, constituting
12% - 17% of the funds' assets. It is difficult to
predict the rate of yield of the share component, but on
the whole, in the long run, the yield on investment in
shares exceeds that of the solid channels. Considering
the present level of quotations on the share market, it
is highly probable that in the long run, the share
component may improve the yields of the funds.
On the other hand, in medium and long-range savings
schemes (3 - 10 years), which are the basis for
comparison with provident funds as a long-term solid
investment channel, average yield (interest) is 4.0%-4.4%
per annum.
Risk - A certain risk attaches to the provident
funds due to the fact that most of their assets are
quoted securities, liable to fluctuate in either
direction. Thus the fluctuating nature of the quotations
of traded securities embodies both risk and opportunity.
The risks involved in investing in provident funds can be
increased or decreased (as the investor prefers), by
choosing a fund that does not invest in the share channel
at all or, conversely, one that invests a high
percentage of its assets in shares.
Savings scheme, on the other hand, are risk-free - the
investor knows what the position of his investment will
be at all stages. On conclusion of the savings term,
however, the interest rate offered to the investor in
respect of a new scheme, could well be lower than the
present rate of interest.
Liquidity - provident funds are highly liquid,
moneys can be withdrawn on a monthly basis or switched
from one fund to another, once a year. This liquidity is
most important if the provident fund moneys are
designated for financing pension payments or the
purchase of some asset.
Savings schemes liquidity, on the other hand, is
problematic. It is true that moneys on deposit can be
withdrawn before the scheme matures; but when that
happens, even at a permitted exit point and certainly at
any other point, the depositor will receive a much lower
return than is assured on ultimate maturity of the
scheme.
To sum up
Careful consideration should be given to the decision
as to whether to switch from a provident fund to a
savings scheme. This is a complicated issue, and there
is no one, objective, unambiguous solution applicable to
all investors. Before reaching a decision, the two
alternatives should be studied in terms of yield, risk
and liquidity, based on the personal priorities of each
individual investor.
The writer is the director of the capital market
consultation and research unit at the First International
Bank.