COLOMBIAN PENSION FUNDS INVESTING IN 4G INFRASTRUCTURE PLAN

Colombia 2017 | FINANCE | VIP INTERVIEW

TBY talks to Miguel Largacha Martínez, President of Porvenir, on informal work, tax reform, and pension funds investing in 4G projects.

How would you characterize the current rate of private pension penetration in Colombia? What are your strategies for improving the penetration level?

The Colombian population is around 48 million; however, only a little more than 8 million regularly contribute to any form of pension fund. The main issue keeping people from contributing is the informal economy. Colombia still has an enormous amount of people in the informal sector, and we need to move them into the formal sector of the economy. This is not pension reform, it is labor reform. Two important laws regarding the reduction of taxes for payrolls have been introduced, and we are excited by the impact they might have. Tax reform is key in ensuring the SMEs thrive and do their part to strengthen the formal economy. In terms of market education, we launched a campaign called Familia Porvenir. Familia Porvenir is an initiative based on digital technologies in which we wanted to explain to Colombians how pension funds work and how they benefit their future. The family proved to be a great model for explaining this, because every member of it has a different set of topics and priorities regarding pension funds that relates to each segment of our clients. We developed a robust digital strategy along with a webserie that explored pension funds through this kind of narrative, always in a simple and entertaining language. This effectively engaged an audience that is otherwise rather difficult to reach, and it was met with a great deal of success. It was a ground-breaking strategy for a financial services firm in Colombia. This strategy allowed us to raise awareness about financial education and receive widespread recognition throughout the market.

How do you see this year's tax reform impacting the formalization of the economy?

The main intent of the tax reform was to offset the losses in government revenue from the oil and gas sector. Oil contributed about 20% to the government's revenue, and the government felt something had to be done to replace this. This has meant an increase in the VAT from 16% to 19% and a reduction in the corporate tax rate to 40%. We have to reduce our corporate tax rate. The other main issue is to reduce the loopholes in our corporate tax laws. The government is expected to boost GDP by 2.1% over the next 3-5 years. Increasing tax rates, however, has the potential of increasing informality and incentivizing tax evasion. Our economy is known for its informal transactions, and higher tax rates will only put more pressure on people in terms pushing them into the informal sphere. The real story is that the Colombian economy is still absorbing the huge shock from depressed prices in the oil industry. It has made some progress, but there is still a large deficit in the external sector and in the public finances. The market was not expecting such a large increase in the VAT; it was only anticipating a one or two percent increase over a couple of years. This surprise was positive for the markets because it was perceived as a serious step to addressing a dire fiscal reality. Many of the major ratings agencies thought it was a positive development, giving us more time to make the needed adjustments in public finances. The tax reform wasn't enough for the government's current needs, but it was better than the markets expected. Our local bonds and the peso increased their value accordingly. The labor market in Colombia has been resilient to the economic shock that has hit Colombia in the last three years. Unemployment has stabilized at around 10% recently. The most interesting thing to realize is that the labor market has not been affected much by the shock, because of where the shock originated—the oil sector. The oil industry is capital intensive and labor plays a much smaller role, meaning the direct impact on the labor market was not huge. Informality has been improving, and it is currently below 50%, which is better than our historical figures. Informality is variously defined, but it is decreasing.

What is your short-term outlook for Colombia's economic situation and its impact on private pension funds?

We have achieved high returns on capital for our affiliates over the last year. In the first quarter of 2017 Porvenir's largest Mandatory Pension Fund has yielded an effective annual rate of 14.57% and the industry's has also had a good performance (13.67% to March of this year). The markets are responding well, but there is always the potential for changes. However, up to now things have been great. The US economy has also been growing quite well and the equity markets are reaching new heights. Within the pension fund industry, there is an important variable that will determine the bulk of the sector's development, and that is informality. Informality is improving, and we are in a wait and see mode to determine if informality will stabilize at current levels or if it will display more volatility. The Colombian government has introduced a new fiscal stimulus, and we have to wait and see how it affects the economy.

What opportunities do the 4G projects present for pension funds? What role do pension funds need to play in financing these projects?

Pension funds are investing money in these projects, but the projects also need international financing. We are investing only around 1% of all our assets under management to the 4G projects, so it's quite low. The legal limit is 5%; therefore, it couldn't exceed this. We have compromised in recent commitments, and we currently have two projects worth around USD200 million.

With four current players in the market, what opportunities are there for additional private pension companies in Colombia?

This industry needs economies of scale, so you need huge volume. The complexity of the business is high and we have a huge responsibility, so some of the small funds struggle to produce strong numbers that reflect ours. As a larger firm, we can create efficiencies that translate into higher returns. We have a huge responsibility, and every market participant has to be solid. In order to achieve, the size necessary to produce the best returns, you need to invest a lot. The breakeven point for a new pension fund is four or five years. Of course, we welcome increased competition, but we are somewhat unique because the public pension funds system is operating simultaneously.

What are your targets and priorities for this year?

We are looking to digitize our operations. All of our customer interactions will be handled through a digital interface. This will be a more efficient and effective system. In four years, we want to have 95% of all our transactions completed digitally. This is a huge investment in process. Customers demand innovation, and we need to be able to respond by providing a new platform.