While the rhetoric around prescribed assets subsided a few years ago due to the workers’ unions realising that their members would be among those most prejudiced should the policy be implemented, there have been some queries as to what lengths the South African government may go to in order to fund their budget deficit and state-owned enterprises’ shortfalls, especially given that foreigners have been net sellers of SA bonds and their proportion of the ownership has plummeted. In this context, we asked Dr Lance Vogel, a member of our investment committee, to outline the implications thereof and discuss what the more preferred options would be. Dynasty is of the view that the re-introduction of prescribed assets is not particularly likely in the near term, largely as the move would be very unpopular with the ANC’s voter base. However, prescribed assets may become an increased possibility should the government funding situation become sufficiently dire.
Prescribed assets in the apartheid era
“Prescribed assets” is a term that refers to a government policy that requires investors, such as retirement funds, to hold a certain amount of investments in government-specified assets, such as government or state-owned entities’ bonds. The South African Government had a policy of prescribed assets in the past, which lasted around three decades from 1956, when the Pension Funds Act was promulgated, until 1989. It was put in place because the state was cut off from global financial markets. During apartheid, global investors refused to invest in South Africa due to sanctions intended to apply pressure to the apartheid regime. For most of this 33-year period, retirement funds had to invest over half of their assets in government and parastatal bonds.
At its height, the Pension Funds Act of 1956 held the prescribed asset levels to be 75% for public investment commissioners and 33% for long-term insurers. This was to be invested in the debt of state-owned companies and government bonds. The consequences for the savings industry varied over the decades, but ultimately it resulted in eroding investor wealth.
Performance track record
During the 1960s, when inflation was around 3%, prescribed assets gave a positive real return. But in the 1970s, inflation averaged 11% and the prescribed asset real return was negative 4%. During this time the stock market returned an average of 24.5% per annum, resulting in a negative 17.2% opportunity cost in nominal terms (including inflation) from investing in prescribed assets instead of the stock market. In the 1980’s inflation averaged 14.5%, the real return for prescribed assets was negative 1.0%, and the nominal opportunity cost of not investing in the stock market was negative 6.7%.
The ANC and prescribed assets
In more recent times, the idea of creating legislation that will force financial institutions to invest a fixed portion of their funds in state owned enterprises and government defined programmes, arose at the ANC’s 2017 National Conference, where it was adopted that: “Government should introduce measures to ensure adequate financial resources are directed to developmental purposes. A new prescribed asset requirement should be investigated to ensure that a portion of all financial institutions’ funds be invested in public infrastructure, skills development and job-creation.”
The Association of Savings and Investment South Africa (ASISA) stated that they have been given an indication by the ANC that government bonds and SOE debt would form part of the prescribed assets as defined.
The ANC’s 2019 Election Manifesto contained a statement that the ANC would “investigate the introduction of prescribed assets on financial institutions’ funds to mobilise funds within a regulatory framework for socially productive investments (including housing, infrastructure for social and economic development and township and village economy) and job creation, while considering the risk profiles of the affected entities”.
The challenge for investment in infrastructure is not about sourcing funding, but making projects investible
With a national election looming in 2024, and the ANC government in a dire financial position, the debate around prescribed assets has started to creep into Investment Committee discussions. While the issue has become emotive for many, it is important to look beyond the rhetoric to understand the thinking behind prescribed assets. An investigation into prescribed assets should be motivated by the need to bolster investments into high-quality, long-term infrastructure investments. If lack of infrastructure investing is a problem that government is trying to solve, what is the solution? Infrastructure investments are not about sourcing funding, but making projects investible. In fact, there are many infrastructure funds structured by the banks and life companies that stopped raising money because there are too few fundable projects. So, finding money to invest does not seem to be the problem.
On the subject of prescribed assets, in August 2019, ASISA pointed out that members had already deployed more than R1.3 trillion in support of government, local authorities and SOEs. In addition, the industry had made direct investments of R200 billion into projects ranging from renewable energy and township development, to affordable housing and urban regeneration, water, roads and agriculture, amongst others.
The re-introduction of prescribed assets would be a blunt instrument
In the same note in 2019, ASISA pointed out that prescription would have a negative outcome of South Africa’s credit rating. Unfortunately, the country is already rated as sub-investment grade, without the catalyst of prescribed assets. The rating reflects the lack of focus, will and ability on the part of the government to guide the country and the economy in a direction that leads to prosperity for its citizens. The concern is that an introduction of prescribed assets would be a blunt instrument to prop up failing SOE’s and to fund a morally and financially bankrupt ruling party and government.
It is important to bear in mind that when the apartheid regime legislated prescribed assets, South Africa was also rated as a sub-investment grade destination. While high inflation was prevalent during that time, 10-year South African government bond yields peaked at around 18.0%, much higher than the current level of 11.75%. Therein lies a significant potential risk to the investment industry if such an adjustment in bond yields was to materialise, reflecting a government strategy bereft of any credibility.
Given that there is in fact appetite for well-conceived public investment programmes, what government should be doing is asking why they have not been able to raise funds in the required areas, and work to fix those disincentives, before considering apartheid-era style measures such as prescribed assets in order to circumvent the disciplines of financial markets.
It is too soon to make any pronouncements and premature to formulate any investment strategy, but it is not too soon to engage in debate and discussion. The 2024 ANC election manifesto may contain some clues in terms of the thinking in the ruling party. There is still a great deal of ground to be covered by all stakeholders if the threat of prescribed assets arises, but what is certain is that any concrete move in that direction is likely to encounter very strong, broad-based resistance if the motives are without foundation.
Sources: Sygnia, Helen Susman Foundation, Mail & Guardian, Ninety One, Eskom Pension and Provident Fund, ASISA.