Old-age provision, or how to get ripped off by insurers under the watchful eye of the State

The Swiss old-age pension system is considered by our elites to be one of the best in the world. And in a way, that is correct. With its three-pillar system, it combines solidarity and individual responsibility. It ensures a minimum living wage for every retiree and supplements this amount with the fruits of their work and savings. The State, employers and employees are partners and jointly responsible for the entire system.

On paper, this all sounds great. Better yet, it even works quite well. I imagine that your car does the same. You turn on the ignition and in principle you are able to drive several hundred kilometers without a hitch, before having to fill up. But you can also expect your car not to burn too much gasoline, not to emit too much CO2, to offer you sufficient autonomy, to be pleasant to drive and efficient... In short, you want it not only to work, but also to meet your needs, with good value for money. And that is the whole problem with our pension system: it works, but not optimally, and not according to your own aspirations.

The 3-pillar system in Switzerland is a bit like everyone having the same car model, with the possibility of having different options for everyone. OK, it's cool to be able to choose tinted windows, metallic paint or a navigation system, but it would still be better if we didn't all have to buy the same vehicle. Being able to choose your insurer doesn't change much because of the strict regulations of the system. To continue the analogy with the automotive world, let's think of the Citroën C1, the Peugeot 107 and the Toyota Aygo. They're different, but identical at the same time.

I have never been a strong supporter of state-sponsored old-age pension systems.. As has just been highlighted above, this obligation to participate in a common and quasi-uniform savings/investment system causes a downward levelling of the benefits that can be obtained from it.

There are several causes for this:

• Risk management and asset allocation : investment policies for old-age pensions are very strict and subject to legal constraints. This is valid for the 3 pillars and therefore concerns social and private insurance. In order to limit risks, the legislator has set standards for asset allocations, in particular by limiting the share allocated to shares. While this policy reduces risks in the short term, it creates another risk in the long term for the future annuitant, since it significantly limits the profitability of their capital.
• Operating costs : collecting contributions, investing the money, monitoring investments and redistributing the annuities obviously involve significant costs. On the other hand, saving and investing in growing dividends requires little time and costs practically nothing.
• Funnel effect : on one hand you have a huge amount of money coming from all employees, on the other hand you have a limited number of investments available due to legal constraints. Performance can only be average, at best. On the other hand, if you manage on your own, on one hand you have your modest savings, and on the other hand an almost unlimited market available (inverted funnel). The potential is enormous.
• Collective needs vs. individual needs : as soon as your money is placed under the yoke of an insurer (social or private), you lose priority. The collective needs, that is to say of the State, the insurer and the insured as a whole will always come before yours. And it is very rare that these needs coincide, despite everything that we try to make you believe.
• Inertia and heaviness of the system : due to the size of the assets and the players involved, as well as the very strict legislation on investment, it is simply impossible to adapt the investment policy of these insurances according to financial and economic uncertainties. We also note a very long reaction time, and often against the market, in setting certain requirements, such as for example the famous minimum LPP interest rate.

Regarding the minimum rate, let's take a little time to analyze its evolution since 1998, and compare it to the result of the Swiss Performance Index (SPI). This index tracks the price of Swiss shares, including dividend payments.

Year	Minimum LPP rate	SPI	LPP conversion rate	Monthly pension with capital of CHF 500,000
1998	4.00%	15.37%	7.20%	3'000
1999	4.00%	10.67%	7.20%	3'000
2000	4.00%	11.91%	7.20%	3'000
2001	4.00%	-22.03%	7.20%	3'000
2002	4.00%	-26.78%	7.20%	3'000
2003	3.25%	21.13%	7.20%	3'000
2004	2.25%	6.86%	7.20%	3'000
2005	2.50%	34.42%	7.15%	2'979
2006	2.50%	20.67%	7.10%	2'958
2007	2.50%	-0.05%	7.10%	2'958
2008	2.75%	-34.81%	7.05%	2'938
2009	2.00%	24.23%	7.05%	2'938
2010	2.00%	4.76%	7.00%	2'917
2011	2.00%	-9.12%	6.95%	2'896
2012	1.50%	17.72%	6.85%	2'854
2013	1.50%	24.80%	6.85%	2'854
2014	1.75%	13.59%	6.80%	2'833
2015	1.75%	3.35%	6.80%	2'833
Cumul	60.87%	127.64%

First of all, let us note that this period is one of the worst in history with two major bear markets during the same decade. Despite this, we note that the SPI has more than doubled the mediocre profitability of the minimum LPP rate. This clearly illustrates the long-term risk, which we discussed above, that this system poses to us.

Another interesting point, over 18 years, the SPI has done less well than the minimum LPP rate only 5 times. In other years it has clearly outperformed the minimum rate, with some extremes such as in 2005, almost 32 points more! And let's remember: we are analyzing one of the worst periods in history for stocks.

We also note a slow and steady descent into hell for the minimum rate. Note that in 2016, which is not yet included in the table, it was even set at 1.25%! However, in the long term, we do not see this decline at all with the SPI. Even if it has experienced falls, it has always recovered quickly.

Moreover, if we look a little more closely, we see the inertia of the minimum LPP rate that we talked about above. It systematically reacts several years behind the market. Sometimes it even goes against the current. Worse, it has a very unfortunate tendency to fall (with a delay) when the market weakens and not to rise again when the market recovers.

Let us now look at the conversion rate, which is also shown in the table above. Remember that this tells us how the accumulated capital will be converted into an annual annuity. What is striking first of all is its relatively generous nature: currently 6.8%, which is a lot compared to the conclusions of theTrinity study. Indeed, with more than 19 years of life expectancy since retirement, this rate should rather be 5%!

Just like the minimum rate, we notice a slow and steady decline in the conversion rate over the long term. However, this decline is much less marked, at 0.05%... Why?

The reason is simple: lowering the conversion rate means lowering pensions for retirees, which is very unpopular. So we do it insidiously, it goes almost unnoticed over the "few" years that retirees have left to live, but we thus ensure that future pensions are lower. The problem (if we want to consider it as a problem) is that life expectancy continues to increase (we have gained 5 years of retirement since the 80s).

While lowering pensions is unpopular, it is much easier to lower the minimum interest rate. In the end, few employees care about this figure on their pension certificates, except perhaps those who are approaching retirement age. It is only when you reach the age of 60 that you really begin to realize how much you have contributed during your life, the total capital accumulated with interest and what this will mean in terms of your future pensions.

This explains why the minimum interest rate has literally melted in a relatively short time, almost to general indifference, while the conversion rate has barely moved. All this bodes very badly for all current employees, those who currently subsidize the generous pensions of baby boomers, and who risk having unpleasant surprises in a few years if they have not covered their own backs.

We will end this article with one last question, to which I do not have a concrete answer today, except for a few assumptions. We have seen above that the performance of the SPI was more than twice that of the minimum LPP rate. So where does the difference go? Are insurance companies lining their pockets? Are they building up reserves to address the "problem" of the rising cost of living and the conversion rate that is difficult to adapt?

So, of course, we can find excuses for them:

• This is a minimum rate and some insurances give slightly more
• Bank interest rates also fell during this same period
• Insurance companies are limited in their equity investments

But does that justify all the difference? Or rather, in the end, aren't we being ripped off by insurers under the complicit eye of the State? Otherwise, how can we explain that the minimum rate continues to fall?

What is certain is that we are never better served than by ourselves. So, as much limit as much as possible what we have to put into "institutionalized" foresight and invest in investments that ensure a decent retirement. And if it can be taken (well) before the age of 65, that's even better 😉