New MPF flexibility brings both pros and cons

九月 20, 2012
Joe Chan

Employees in Hong Kong will soon enjoy greater flexibility in investing their Mandatory Provident Fund(MPF) funds. With the implementation of the Employee Choice Arrangement (ECA) this November, employees will be able to transfer their accrued benefits to MPF schemes of their own choice from the ones chosen by their employers.

Since its launch in December 2000, trustees and schemes have been chosen by the employers based on the initial setting of the MPF system, a feature which aims to reduce administration costs since every employer will select only one trustee and one scheme; the total number of employers is just a few hundred thousand compared to the over 2.5 million employees. Besides, the accumulated asset value of the whole MPF system was initially too small to allow millions of individual accounts to choose their own trustees and schemes.

After over 11 years of growth, the aggregated net asset value of all MPF schemes reached HK$384 billion at end-June 2012. If the annual management fee of the MPF schemes is 1 percent per annum, the potential revenue for the trustees to share is HK$3.84 billion, which is a handsome amount for the 19 MPF trustees. In average, each of the trustees will pocket HK$202 million in revenue on MPF management fee alone, aside from other fees and charges. With the size of MPF getting larger and larger, it’s time now to lower the transaction costs and fees charged by MPF trustees and provide more choices to employees.

The ECA allows employees to choose their trustees and schemes but under some restrictions. Employees can transfer their accrued benefits to other MPF schemes. The "Accrued benefits" mean the contributions and investment returns accrued under the employee’s MPF account. According to the current arrangement of the MPF scheme, if the monthly salary of the employee is HK$6,500 or above, both employee and employer are required to contribute 5 percent of the monthly salary into a MPF account and with a cap of HK$25,000. Each employee will have his own MPF employee’s account and it is divided into three sub-accounts, i.e., (i) employer contributions under current employment, (ii) employee contributions under current employment, and (iii) contributions from former employment or self-employment. When the employee retires, he can get all the money from these accounts. According to the ECA, employees are allowed to transfer the accrued benefits from (ii) and (iii) accounts only.

Employees will be allowed to transfer once only in a year their accrued benefits in lump sum. This is not the optimal setting for employees; the best arrangement is allowing an employee to transfer his MPF contribution to a trustee and the scheme he selects monthly. However, after consideration of management difficulty and complexity, the ECA is arranged in the proposed format.

The idea of time diversification of investment risk is to invest periodically with the same amount of money. Since the investment amount is the same in every period, we can use time to diversify the risk. The method is called "dollar cost averaging" (DCA). For the MPF contributions, employers and employees are required to make monthly contributions before the employees reach the age of 65; basically it is using the DCA strategy.

Since the ECA allows employees to transfer their accrued benefits once only in a year, the timing is critical. It will take six to eight weeks to complete the process of transferring, and the window time frame is quite long. If the market is volatile, it may not be an optimal timing to switch. So the employees should be particularly careful to exercise the right to switch their accrued benefits to a new trustee and scheme under the ECA.

The author is associate professor at Department of Finance & Decision Sciences of Hong Kong Baptist University. The views expressed here are entirely his own.