“The CPF is Risk Free” Doubletalk
In this follow-up to the government’s CPF double talk on rates of return, the writer looks at the mother of all doubletalk; Ministers asserting that CPF principal and interest are guaranteed and as such retirement savings are “risk free”. Let us begin by doing away with the most obvious bits.
Guarantee and Risk Free
From previous articles and comments by the writer and others, it is well known by now the government guarantee to CPF is a contradiction since the government’s guarantee is based on its tax raising powers and it is the citizens who ultimately guarantee their own investment in CPF with their taxes and the net assets in the SG reserves which are derived from unspent taxes, excess returns from investing CPF funds and land sales revenues.
Next, even the safest instrument, the government bond, contains risk. The term “risk free” does not exist outside the theoretical context of the “risk free rate” which uses the government bond yield as an approximation to calculate risk-adjusted returns of comparative investments. The ministers’ use of the term suggests they are either deliberately obfuscating or they do not fully understand the context. The writer does not recall any other government claiming their bonds are “risk free”.
Low Risk Today, High Risk Tomorrow
SG government bonds certainly have low risk to default but a low risk instrument has a low rate of return which exposes savings to other risks. Let us look at annual CPF rates in comparison to the annual rate of increase in the Minimum Sum, which the government said, is needed to keep pace with the rise in inflation and standard of living which imposed cost increases not captured by the inflation rate.
The red numbers show the excess rise in costs over CPF rates due to inflation and standard of living. Clearly, the interest delivered by low risk government bonds to CPF cannot keep up with rising costs. Essentially being invested in low risk instruments exposed savers to different kinds of risks which may be invisible until 20-40 years later, illustrated in the flow chart below
Next, let us compare the 20 year average rate of return from low risk CPF to that of a higher risk model portfolio which assume CPF monies are invested equally in US equities (S&P500 Index), European equities (EuroStoxx Index) and global bonds (JPM Global Bond Index). Returns in the model portfolio are adjusted to S$ to account for currency risks and are net of taxes. The performance data for the model portfolio over the past 30 years in the table and comparison of the 20 year average rate of return in the chart.
| No. of Annual Losses | No. of Annual Gains | Worst consecutive losses | Best consecutive gains | Worst Annual Loss | Best Annual Gains |
| 7 years | 23 years | 2 years | 5 years | -26.1% | +41.6% |
The excess returns of the model portfolio over CPF in red numbers represent the opportunity cost of a lifetime of receiving interest from safe, low risk government bonds. By avoiding investment risk, a low return portfolio is at risk to inflation during working life and especially in retirement when a retiree has little or no means to derive extra income to offset inflation. This is the reason virtually nobody passively invests only in government bonds throughout a lifetime and one should accept risk when one is working to avoid risks in retirement. Even the ultra-conservative $1.5t GPIF of Japan, all of 76 staff headed by a CIO paid just $200,000pa, do not invest entirely in government bonds.
Tharman: “It (CPF) protected members from risk”
It sounded reassuring and altruistic when Mr. Tharman said this in Parliament on 8 July 2014. Perhaps it is but think deeper. The long run reward of accepting higher investment risks is well known. By legally coercing CPF funds to be invested in SSGS, the government has effectively monopolise the historical long run reward of investing in risk assets and captured the excess returns into the net assets of the SG reserves. In effect, this is highly regressive hidden tax or an astronomical surcharge on savings. Conversely, it meant that CPF members is prevented from benefitting from the same historical long run reward, consigning members to low risk low returns which exposes them to other risks as explained above and worst, in retirement when it is difficult to generate additional income.
So next time, if someone insists CPF is “risk free”, the reply should be “free from which risks?”
Chris K
*Chris K holds a senior position in a global financial centre bigger than Singapore. He writes mostly on economic and financial matters to highlight misconceptions of economic policy in Singapore.