The Employees Provident Fund (EPF) is one of Malaysia's success stories. The pension fund was the world's seventh biggest state pension fund in 2006, according to a Watson Wyatt study. Today, it manages more than RM300 billion of assets. In 1985, this was only RM26 billion. As always, millions of its members look forward to a good dividend payment and when you are close to retirement, a bigger number would obviously make your day.
But being big is not all that it's cracked up to be. For starters, you need to make more to pay dividends when assets are big. For example, if you manage RM100, a 5 per cent dividend is RM5 but if you take care of RM1000, 5 per cent is RM50. You need to make 10 times more in investment income to pay the same level of dividend as the guy that has a smaller fund.
But isn't it easier if you are a big investor? Surely you can make more money with such a war chest. The bulk of EPF's investment is in safe instruments like government bonds and high-grade corporate bonds. This provides a constant stream of returns as they are fixed.
But being big like the EPF makes it difficult to manoeuvre in the stock market where you need to avoid attention to maximise profits. For example, if it buys a big block of The New Straits Times Press (Malaysia) Bhd, others might think the fund knows something they don't. Other investors will also then buy the same stock, driving up the price, and the EPF will find it hard to buy more because future profits would be smaller.
Another disadvantage is that the EPF cannot keep its profits. Everything must be given out to members every year. Without reserves, dividend will swing from year to year. In a good year, it could be high and vice versa. Still, administratively, it would probably mean less headaches for the EPF.
On the other hand, keeping a reserve might help the EPF prepare for a rainy day and provide a more consistent level of dividends. As for the stock market, the EPF has adopted a slightly different strategy, holding about one tenth of all shares on Bursa Malaysia. It now prefers to receive dividends as opposed to capital gains or profit made from buying and selling stocks.
But the size of its holdings are generally around 10 to 20 per cent. This means that its share of dividends from the 120 companies is not that big. Every year, EPF officials will visit about 30 to 40 of these firms, trying to persuade them to adopt a dividend policy or pay more dividends.
This is where the strategies of the pension fund and other funds like Permodalan Nasional Bhd and the Armed Forces Fund (LTAT) differ. PNB and and LTAT, for instance, have their group of companies that they control. PNB has companies like Sime Darby Bhd and NCB Holdings Bhd, while LTAT holds the Boustead group of firms.
When the stock market is weak, funds turn to dividends to boost income and this, in turn, helps them pay reasonably well. Unlike the EPF, PNB and LTAT control the sizeable companies. This means that they can ask the companies to pay more dividends when the market is bad. In good times, they can go back to regular payments as their parents can make enough money from capital gains.
Controlling a solid business with steady cash flows would be a big advantage for a fund like the EPF. Imagine if it were given a licence to build a power plant. It can benefit in many ways.
First, it can buy bonds to fund construction of the plant, giving it a steady return over 10 to 15 years. Then, it makes money from selling power under a long-term deal with Tenaga Nasional Bhd. It wholly owns the independent power producer (IPP), so it gets all of the profits. As to management concerns, the EPF could hire professional executives to run the business.
If the IPP decides to expand, it can continue to fund this.
This leaves the EPF with the stock market where another one fifth of its assets are in stocks. Although they are riskier than bonds, the EPF can make more money.
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