Last September 19, FIAP’s President, Guillermo Arthur, spoke at the Global Distribution Conference organized by the Association of the Luxembourg Fund Industry (ALFI) in that country.

UCITS Funds

On the occasion, FIAP’s President provided his perspective on the importance of the UCITS funds for pension fund investments. UCITS funds comply with the directives of the European Union which lay down the conditions under which a fund domiciled in one member state can be distributed in all the other member states. The purpose is to simplify regulations governing investments and increase investor protection.

Main characteristics of the individually funded systems

In his presentation, FIAP’s President first clarified that the AFP pension system is a mandatory system in which pension contributions are deposited in personal accounts belonging to enrolled members. The percentage of the contribution is approximately 10% of the gross salary in all countries, which is very low, considering the growth of life expectancy, the drop in interest rates and other parameter changes. These contributions are managed by private companies, the AFPs, whose exclusive purpose is to collect and invest these savings in accordance with the law.

FIAP’s President emphasized that these are mandatory systems, and are therefore subject to strict regulation, in terms of eligible instruments and maximum investment limits per instrument and issuer. The savings are invested in a wide range of instruments, both domestic and international, with the aim of obtaining good returns with acceptable risk levels. Thus, workers’ pensions are financed with their savings, plus the returns on the investment obtained by the fund manager.

Measures taken in Chile to allow exposure of the pension funds to UCITS domiciled in Luxembourg

FIAP’s President said that since the UCITS directives provide a set of rules and regulations governing the structure and management of these funds, investors feel a high degree of protection and confidence in such important matters as: (i) risk diversification; (ii) liquidity; (iii) independent custody; (iv) the governance and compliance framework of UCITS policy procedures; and (v) accessible and comprehensible information.

Investors are guaranteed that all these items are strictly regulated by the aforementioned directives. Investment in UCITS can also have tax advantages. In fact, dividends from investments in the U.S. must be distributed and then taxed with a 30% withholding tax on foreign investors, while the dividends of the UCITS, in general, are reinvested, without any tax payment.

This set of rules and regulations is important not only for the investment process, but also for the regulation and control process. In fact, knowing that the funds have passed a rigorous control process in such important matters, the national monitoring system does not have to review the entire process again. For example, in Chile, all UCITS instruments are approved for this very reason, if they also meet the following requirements:

• The Fund must have more than USD 100 million in assets under management.
• Diversification of ownership. The Fund must have at least 5 participants, and none of them can hold more than 20% of the shares.
• The asset manager must have experience and manage at least USD 10 billion.

Investment in UCITS in Chile, Colombia, Mexico and Peru

FIAP’s President then spoke on the investment of the pension funds in UCITS in Chile, Colombia, Mexico and Peru, which are the countries that are most developed in terms of international investments.

CHILE

In Chile, more than USD 51 billion are invested in UCITS, and the majority (USD 40.4 billion) are invested in in Luxembourg. USD 17 billion are invested in the United States, mainly in ETF shares. In short, 75% of the international investment of the Chilean pension system is in UCITS funds.

PERU

In Peru, the situation is different because they have historically invested in passive vehicles. Hence, their investment in Luxembourg is 28%, which is less than half of their investment in the US.

COLOMBIA

The situation in Colombia is very similar to that of Peru, where investment in UCITS is only half of the investment in ETF in the US.

MEXICO

Finally, the situation in Mexico is very different, because they are not allowed to invest in active funds abroad. The Mexican pension funds can invest up to 20% of their assets under management abroad. Nonetheless, foreign investment in equities can only be done through ETFs. Currently, only 16% of assets under management are invested abroad, with 80% of the investment in ETFs. More than 70% of total international investment is in the U.S.

Due to Mexico’s free trade agreement with the United States, the Mexican pension fund managers are exempt from the withholding tax, which eliminates the tax benefits of the UCITS. Thus, even in a scenario in which the rules and regulations are changed to allow investment in active foreign funds, they would most probably prefer to continue investing in the U.S.

However, bearing in mind the size of the Mexican economy, sooner or later they will have to open up the regulations to allow international investment. Although the domestic market is large, they must open up their foreign investment regulations for security reasons.