EPF to cover country’s financing gaps?

(The Sun Daily) – Employee Provident Fund (EPF) will be called upon to cover financing gaps due to a wider fiscal deficit, lower Petroliam Nasional Bhd (Petronas) dividends and a cash-strapped 1Malaysia Development Bhd (1MDB).

Bank of America Merrill Lynch Global Research said there have been concerns whether the Employee Provident Fund (EPF) will be called upon to cover financing gaps due to a wider fiscal deficit, lower Petroliam Nasional Bhd (Petronas) dividends and a cash-strapped 1Malaysia Development Bhd (1MDB).

“Concerns are nevertheless mounting that with a wider fiscal deficit, potentially lower Petronas dividends and a cash-strapped 1MDB, the EPF will be called upon to forsake returns, cease its foreign diversification and cover the financing gaps of government-linked entities,” its Asean economist Chua Hak Bin said in a report yesterday.

“That would be a huge setback for the EPF’s commendable track record,” he added.
Chua highlighted the EPF’s omnipresence with funds of RM637 billion (US$174 billion) and accounting for 50% of MGS and 13% of the stock markets.

Rule changes are moreover in favour of increasing contributions and reducing withdrawals.
EPF inflows are a sufficiently large magnitude to provide some support to both the domestic bond and equity market, as foreign portfolio inflows dwindle.

EPF net contribution flow was about RM23 billion in 2014. Total foreign portfolio investment registered a net outflow of RM9.6 billion in 2014, although most of the portfolio outflows were concentrated in Q4 (RM20.6 billion). This was when oil prices collapsed, raising concerns over the impact on the fiscal and current account balances.

Foreign holdings of Malaysian Government Securities (MGS) have however been relatively resilient. While foreign holdings fell RM8.7 billion over July to Dec last year, they have risen some RM6.1 bilion in Jan-Mar this year.

However Chua said, there have also been concerns whether the EPF’s heavy presence will depress yields on MGS and boost stock market valuations.

“Despite underperforming, the Kuala Lumpur Composite Index’s (KLCI) still trades at about 17 times price-to-earnings ratio, higher than valuations on Singapore, Hong Kong, Thailand or Korea stocks,” he said, adding the EPF’s captive holding has also reduced the KLCI velocity.

Chua said poor liquidity in turn has hurt trading and investment interest, adding that Malaysia will issue RM5.5 billion of its 5.5-year bonds.

With total investment funds of RM637 billion at the end 2014, EPF is ranked seventh in the world when measured against the size of Malaysia’s economy, in which EPF is ranked below Japan, Korea, China and Singapore, but above India and Taiwan.

Meanwhile, as a share of gross domestic product (GDP), Malaysia’s EPF is the third largest after Norway and Singapore.

The research house expects EPF’s fund inflows will remain large, reflecting both favourable demographics with a rising labor force and wages.

It noted that net EPF contributions increased 28.5% to RM23.3 billion in 2014, about RM1.9 billion per month, while active membership grew 2% last year, over 10% since 2010.

“We expect EPF fund inflows to remain high over the next decade given the growing working-age population and favorable demographics.”

EPF’s assets grew by 7.9% in 2014, in which it has increased the proportion of risky assets to sustain returns.

Compared to a decade ago, EPF has increased its portfolio share of equities to 42%, while reducing the share of MGS to 26% and money market instruments.

EPF also has increased its foreign allocation significantly to 23%, raising overall returns and reducing over-concentration risk on domestic assets.