South Africa’s big pension fund problem

A Defined Contribution (DC) system puts South Africans’ savings at the mercy of the market, which leaves retirement outcomes dependent on timing, rather than planning.

Old Mutual’s head of corporate savings and income, Fred van der Vyver, said even those who do everything right are vulnerable to losing critical savings through no fault of their own.

“Financial security at retirement is increasingly being determined not by how much you save, but by when you retire,” he explained. 

“We need a model that cushions individuals from unpredictable shocks and gives them confidence that their efforts will translate into a stable, secure retirement.”

Van der Vyver explained this as a systemic vulnerability in South Africa’s retirement system and used the Covid-19 pandemic as an example. 

In early 2020, markets collapsed in response to the global pandemic, which saw thousands of South Africans retrenched or forced into early retirement. 

He said many had to exit their retirement funds at the lowest point of the market, locking in losses that could not be recovered. 

By contrast, those who retired just a year after the markets had rebounded fared significantly better.

This case illustrates that the difference in retirement outcomes can significantly depend on timing, rather than planning.

“This pattern highlights a fundamental shortcoming of the Defined Contribution (DC) system, which now dominates South Africa’s retirement landscape,” he said. 

“In a DC fund, each individual saves and invests independently, and their retirement outcome depends on how markets perform at the time of withdrawal.”

An alternative to the DC model is a Defined Benefit (DB) model, which guarantees a fixed pension based on years of service and salary. In contrast, a DC system shifts all investment risk to the individual. 

In other words, under a DC system, there is no built-in protection if markets fall just before retirement.

A viable alternative

To address this structural weakness, Van der Vyver suggested a Collective Defined Contribution (CDC) as a more stable and equitable alternative. 

“CDC schemes retain individual contributions but pool investments, allowing members to share market risk and benefit from smoother returns over time,” he explained. 

“This collective structure provides protection from market shocks and reduces the role of timing in determining retirement outcomes.”

Therefore, a CDC system offers a more predictable outcome by ensuring that your income in retirement better reflects your lifetime of contributions, rather than the mood of the market when you exit the workforce.

Van der Vyver noted that the current DC framework includes some protective features, such as life-staging strategies, smooth bonus portfolios, and default annuity options.

These features aim to reduce the impact of poor timing. However, he warned that these mechanisms are not systemically embedded and often require active decision-making by individuals.

In contrast, the CDC model integrates these protections directly into the fund structure, offering built-in safeguards rather than optional enhancements.

Van der Vyver referred to research presented from Aon at the August 2024 Old Mutual Thought Leadership Forum, which showed that CDC schemes could potentially deliver up to 30% higher retirement incomes than standard DC arrangements.

These gains are driven by lower fees, better long-term investment efficiency, and the ability to avoid locking in losses during downturns. 

He said countries like the UK and the Netherlands are already moving towards a CDC system to future-proof their pension systems in an era of longevity and volatility.

However, Van der Vyver cautioned that a CDC system is not a silver bullet and has some drawbacks.

For example, members generally cannot pass unused savings on to heirs under a CDC model, which may concern those viewing retirement funds as part of a broader wealth transfer strategy. 

In addition, issues of intergenerational fairness must also be addressed to ensure younger workers do not disproportionately subsidise older members. 

“These are valid concerns, but they are challenges of design, not principle,” Van der Vyver said. 

“We’ve already demonstrated, through reforms like the two-pot system, that when there’s political will and industry cooperation, complex change is possible.”

Regardless of the system chosen, Van der Vyver said the most crucial risk is inaction, particularly given global instability, rising life expectancy, and a growing crisis of confidence in retirement outcomes in South Africa.

“The longer we delay structural changes to deliver more consistent outcomes, the more we undermine public trust in retirement saving,” he said. 

“We must build a system that rewards long-term commitment and protects people from forces they can’t control. The current model simply doesn’t yet deliver that.”