What choice ?

I can just imagine an echelon of ex-insurance salesmen (there were hardly any seriously successful ‘insurance sales-women’) salivating at the thought of the commissions to be made when superannuation Choice of Fund is introduced in July.

Most of you are too young to remember the activities of a select bunch of extremely well trained employees of insurance companies that ravaged the unregulated investment markets of the 70’s and 80’s. The major product was an ‘insurance bond’ and it incorporated all the attributes that make the provider rich and the consumer ripped off. Thirty years down the track and we are faced with exactly the same scenario, perpetrated by the same insurance companies, albeit with different names.

The term ‘pension mis-selling’ might not mean much to you, but with choice of superannuation fund now a reality it might pay to become familiar with it. Pension mis-selling describes the situation that arose in Britain between 1988 and 1994, after the government decided it would be a good idea to let individuals buy pensions from private-sector providers…..

High-pressure tactics by commission-based salespeople led to tens of thousands of people being sold products that proved to be entirely unsuitable. High fees and charges and poor investment returns combined to shrink the retirement savings of these people. Many found themselves locked in, and unable to switch to more appropriate products without incurring very high exit fees. The result was a nightmare for investors, pension providers and the government. As at the end of October ¹ an estimated £11.5 billion had been paid in compensation for mis-selling.

In Australia, after seven years of false starts, superannuation fund choice is now a reality. A start date of July 1, 2005, has been set. And as sure as eggs, there will be salespeople out to make a quick buck.

The possibility of ‘unscrupulous marketing practices’ is widely recognised, even by the Government who in a Senate select committee discussing consumer protection made the point;

Choice of fund will inevitably lead superannuation providers to actively compete for the business of employees to improve market share. Marketing costs will therefore rise. However, in the long run, the Government believes that competition will drive costs down.

For the first time outside the sphere of optional private superannuation arrangements, employees will encounter providers who will seek to persuade them to direct their SG contributions towards particular products. The Committee received evidence indicating that there is concern in some quarters about whether the consumers of superannuation services and other financial services will be adequately protected from unscrupulous marketing practices……

The committee was urged to be guided by the U.K. Experience where nearly 600,000 consumers were persuaded to change their funds, “lured by unrealistic promises about expected benefits” to their substantial financial detriment. And recent reports have confirmed that the same situation has occurred in Chile.

William M Mercer Pty Ltd supplied the Committee with information about costs of switching superannuation funds in Chile. Chile operates a compulsory private sector superannuation system in which funds compete actively for members. Mercers advised that according to Institutional Investor Magazine, 29 per cent of fund members in Chile switched funds in the year ending June 1997. Much of this switching is triggered by salespeople who are paid whenever a member switches funds. Approximately 38 per cent of the entire cost of managing Chile’s superannuation system is related to costs associated with fund switching. The Committee received evidence that commission-driven sales of superannuation products in Australia may produce similar results to those observed in Chile.

I have blogged in the past about the dismal levels of financial literacy in Australia and the reluctance of the Government to address the situation. Why would they ? Guaranteed of a pension that mere mortals can only dream of, they can make statements like;

The Assistant Treasurer, Senator Helen Coonan, says the arguments against choice “just don’t stack up”. “We know choice works,” Coonan said, in a statement announcing the passage of choice legislation through Parliament. “Many employers already offer employees choice of fund – a fact backed up by the Association of Superannuation Funds of Australia – and choice has been operating successfully in Western Australia for many years. “If Labor’s scaremongering is true, why is there no evidence of choice being costly for employers or of unscrupulous funds taking advantage of employees? “A substantial education campaign will support the introduction of choice. It will encourage people to take an interest in their superannuation and carefully consider any decision to change funds.”

Comparison between the debacle in Britain to the situation that may arise in Australia is valid. The implications of fund choice are not immediately apparent – a 2% increase in fees compounded for 30 years has a huge impact on the final benefit. Some people may be able to work it all out, but most people will have to rely upon an actuary (often employed by the same insurance company pushing for change) to do the complicated calculations. Projections made on the back of a good year in 2004 will raise unfulfillable expectations in gullible consumers. Ask your mum about the glib insurance salesman who promised that by saving $10 per week in 1970, she’d be a millionaire by 2005.

The best defence against making a poor choice or being ripped off by an unscrupulous salesperson is knowledge. First of all, it is worth considering why we need choice in the first place, apart from the ideological or philosophical position that we all should be free to choose how to save for retirement. Most of the people I know want to invest in bricks and mortar, something they are comfortable with, not give their savings to some faceless fund manager. The proposed regime is not the result of consumer demand, but rather the big players in the financial services industry increasing profits by selling their products to members of public-sector, industry and corporate funds, who they otherwise couldn’t appeal to as potential customers.

The Government has tried to deflect the cries of consumer advocates (which have been few and far between) by saying they will provide ‘adequate education and full disclose of fees and charges’. As ASFA’s chief executive, Philippa Smith says;

“Informed choice is key to consumers being better off under the new regime. There is little point in having a plethora of options to choose from if you don’t understand any of them”. She cites research by ANZ Bank on the low levels of financial literacy in the community, and says the Federal Government’s allocation of $14 million over four years to alert people to super choice is a tiny amount when spread over 20 million account holders. “You also need to be able to compare the price tag. Some steps have been made on the fee-disclosure front, but unfortunately they don’t go far enough.”

I can’t remember the last time I waded through the 100 page Product Disclosure Document to find that the fund’s management fees were 10 times the industry average and it would cost me an arm and a leg if I wanted to change my mind and take MY money out of the fund. As for protection, one symbol says it all when it comes to the efficiency of the insurance watchdog APRA – HIH.

No, I’m not convinced that Choice of Fund is for me, although at the end of my working career it affects me much less than my son’s generation, it seems that the Government is spending an inordinate amount of time and money addressing an issue that’s not considered a problem by most consumers. Why then is fund choice such a big deal ? Perhaps it’s got something to do with who is driving the push for change.

1. 2004[↩]