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Pensions shock boosts funds

Russia’s mutual funds were wiped out in the 1990s crisis. However, news that the state pension fund is unlikely to provide its citizens with much of a nest egg has fuelled new growth in the area. Ben Aris reports.
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President Boris Yeltsin created Russia’s mutual fund business in 1996 by decree and as the stock market boomed the number of funds proliferated until Russia’s financial crisis in 1998 killed off all but one. Now they are back and growing fast, thanks to Russia’s strong economic growth, rising incomes – and a nasty shock that everyone got last year when the state pension fund sent out letters telling Russians just how much it had put aside for their old age.

Russia has just implemented the first phase of its pension reform. This April, 55 newly licenced management companies will get their first dollop of money from the “investable” part of Russian citizen pension contributions.

Option to move

The State Pension Fund sent out nearly 40 million letters to the entire workforce last year telling them exactly how much they had accumulated towards their pensions and giving them the option to move part of this money into a privately managed fund in the hope of earning a better return before they retire. Contributions to the state-managed pension fund is capped at about Rb600,000 ($21,000) a year, or $1,700 a month, which means that an employee who contributes for 25 years to a fund that grows by 5% a year can look forward to about $120 a month when they retire.

“It’s peanuts,” says Andrei Uspensky, CEO of Pio Global, a fund manager that started life in the early 1990s investing into voucher privatisations.

“Everyone is aware that the Russian state pension is small, but it is another thing to get a letter that shows you exactly how small it is. People will start thinking about their future now.”

Only 2% of Russia’s working population took advantage of the possibility to move the investable part of their pension contributions to one of the privately run companies, but market players estimate that the business could be worth as much as $100bn by the end of the decade, and funds are popping up like mushrooms.

After the crisis only a Templeton-run fund was left on its feet, selling itself on the basis of “the only way from here is up”. But it closed for lack of interest, while the leading RTS stock market index rose from a low of 38.5 in October 1998 to pass its all-time high of 573.8 in October 2003 – a 1500-fold increase.

Tax dodges

On the back of this boom, the number of funds of all types in operation has grown from 60 in 2002 to an estimated 250 by the end of 2003 – a four-fold increase – with about $2.5bn under management. The market leaders in the mutual fund market are Pio Global, Troika Dialog, NIKoil, Alfa Capital, Pallada Asset Management and Dresdner Bank. The bulk of company pension schemes are little more than tax dodges and market players estimate that about 10% are “real”.

However, as the Kremlin tightens its control over the economy, companies are responding by cleaning up their act. President Vladimir Putin has called on big business to adopt a more “socially responsible” attitude to business and sorting out pension funds is high on the list.

Pension reform should kickstart interest in long-term investment but the bulk of Russians who are investing anything into stocks and bonds still have a short horizon and are doing little more than speculating.

Pio Global is one of the oldest companies in the market and the only dedicated fund to use retail outlets to sell its open-ended mutual funds.

Most of the customers are walking in off the street into one of its three Moscow-based branches collectively to invest about $4m a month – as much as most retail banks collect in deposits. However, the customer base is small and the churn is high.

“Most of our clients have a very short horizon of only four to five months and a trading mentality: if the market goes down they swap their funds out of equity to the bond funds. They trade funds like stocks,” says Mr Uspensky.

With the redemption rate running as high as 70% during last October’s political turmoil, following the arrest of oil company Yukos’ former CEO Mikhail Khodorkovsky, no one is saving for their old age.

Although one of the most successful funds, Pio still only has 6000 customers – who have an average of $3500 invested in one of the three funds – and a total of $40m under management.

The minimum investment is $100 and the funds are bond, equity and balanced funds with half the money under management in the equity fund. More recently, Pio also launched two index tracking funds that have managed to track rises on MICEX with less than 1% error – not bad for a market that was up by more than half in 2003. Its equity fund that returned 63.5% was one of a half dozen to beat the index.

However, everyone in the fund business is struggling with distribution. Since no one apart from Sberbank has a real branch network, selling the funds is hard work. The money collected by the 55 non-state pension funds has gone mainly to the dozen banks that set up funds. They enjoy tremendous advantage thanks to their branch networks and regional presence.

Nervous of banks

“The brands of Troika Dialog, Alfa and most of the others are only well known in Moscow, plus one or two other cities,” says Vladimir Alexseyev, the head of Rosbank’s asset management arm, “but banks like Sberbank and Rosbank are well known much further afield. Russians are still nervous about banks and while returns are an important factor, having a reliable and trustworthy image is crucial.”

Rosbank is hoping to make use of its new 350-strong retail branch network after it bought 1st OVK bank earlier this year to sell mutual and pension funds to Russians. It has two open-ended mutual funds (known in Russia by the acronym PIF) – an equity and a bond fund – as well as three non-state pension funds licenced to collect the investable part of the pension contributions.

But like most of its own competitors, it is only getting into the mutual fund business now and launched its PIFs at the start of March. The plan is to start by offering these funds to employees of companies in its parent company Interros industrial group (for whom it already provides payroll and retail accounts for the workers) before broadening out to Russians walking in off the street. “The interrelationship with Interros and Rosbank guarantees success,” says Mr Alexseyev.

As a brand new business, nearly all of Russia’s nascent funds are concentrated in Moscow, where average incomes are five times higher than the rest of the country but distribution is still a headache.

Major coup

Stand-alone funds have been using a number of strategies to counter their hybrid bank/funds competitors. Pio Global has already signed agreements at the start of the year with Citibank, which is expanding its retail network, targeting the emerging middle class and well off Russians. And Pio scored a major coup in March by signing a similar agreement with Sberbank, which considers itself a financial supermarket and currently has no plans to launch its own fund business.

Another effective tactic is mailshots. Russians have no experience of junk mail and one direct mail company that sends a personalised letter on a potential customer’s birthday was shocked to find the consumers writing back to thank the company for its good wishes; Mr Uspensky says that the reply rate to their mail shots reaches as much as 25%.

In addition to buying lists of names from companies with similar customer profiles, such as satellite television operator NTV Plus, Pio sent a letter to every house on Ryblovskaya Schosse, the prestigious road that runs from the Kremlin to President Vladimir Putin’s dacha just outside Moscow.

“The development of the fund business is still more about education than grabbing market share,” says Mr Uspensky. “We are still right at the beginning of growing the pie for everyone and not worrying about cutting it up yet.”

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