Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ THE MAIN CHARACTERISTICS OF THE HUNGARIAN PENSION REFORM CSABA NAGY, PRESIDENT CONFERENCE BY BULGARIAN ASSOCIATION OF SUPPLEMENTARY PENSION SECURITY COMPANIES SOFIA, February 15-18, 2005

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ REASONS FOR PENSION REFORM Replacement ratio of pensions Demography – baby boom in 1950’s Costs of PAYGO scheme are not affordable in the 21st century Value and replacement ratio of pensions has fallen since 1990

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ WHAT IS A PRIVATE PENSION FUND? As opposed to PAYGO scheme, an institution that establishes transparency and relationship between contributions paid by the individual and pensions received An optional item of employer sponsored employee benefit schemes A form of partially opted-out scheme designed to substitute roughly 25 % of state social security pensions PILLAR 2

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ WHAT IS A VOLUNTARY PENSION FUND? A savings vehicle providing for supplementary income to retired members A fundamental part of employee benefit schemes As from 2005 also a financial product: up to 50 % of savings can be offered as a collateral to bank loan up to 30 % of savings can be borrowed bythe member A form of savings entitling to tax allowances PILLAR 3

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ KEY FEATURES Mutual ownership of members Non for profit organisations Fully funded schemes of defined contribution (DC) type Tax incentives are granted PILLAR 3 PILLAR 2 Mandatory to new entrants into the labour market Rates of contributions are set by legislation, currently 8 % of the monthly earnings that can be supplemented up to 10 % Term of savings up to retirement Voluntary membership Contributions (in excess of a minimum fee) are optional Minimum savings over 10 years (waiting period) or up to retirement

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ STRUCTURE OF LONG TERM SAVINGS Insurance coverage (open market since 1989) Voluntary mutual pension funds - VPFs (established since 1993) Mandatory private funds - MPPFs (set up during 1998 and 1999) State Social Security Pension Mandatory Private Pension Funds VOLUN TARILY OBLIGATORIL Y Voluntary pension funds Insurance Other savings

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ ORGANISATION STRUCTURE (VPF, MPPF) General assembly of the members Board of Directors Supervisory Committee PROVIDERS Bank account manager Administrator Asset manager Custodian Auditor Other (Certificate Authority of digital signatures from 2005, etc.) SPONSORS STATE SUPERVISORY AUTHORITY

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ CHANGES IN ENVIRONMENT MAJOR ISSUES 10 YEARS AGO Political support of the pension reform was questionable The establishment of trust of the population in the reformed scheme seemed to be the largest challenge Investments primarily in state guaranteed bonds Administration and accounting and reporting techniques had to be elaborated Principles and techniques of audit and supervision had to be worked out MAJOR TOPICALITIES The reform is irreversible and trusted, but tax allowances might be cut Persistency of members, especially in voluntary funds on the termination of the waiting period is of highest concern Focus is on diversification of portfolio and monitoring of asset managers Confidentiality and security of data and business processes, automated data processing is emphasized Disclosure of performance, investment policy, benchmarks and returns on invest- ment to members

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ CHANGES IN REGULATION Milestones indicating development of regulation & supervision 1997: Pension reform (private funds) passed by Parliament 1998: Private funds, initially about 40, are formed and approved by supervision 1999: Active labourforce can opt –out and register in private fund by 31 st August 2000: Hungarian Financial State Authority is formed by union and common management of former agencies to monitor the entire financial sector 2001: Harmonisation of legislation with respect to private and voluntary funds 2002: The option for withdrawal from private fund and switch back to state scheme has terminated on 31 st December 2003: rate of contribution in private pension funds is raised to match initial reform objectives (7 % in 2003, 8 % from 2004) 2004: Harmonisation of pension legislation with EU directives, although portability of pensions is still outstanding Tax allowances to members to reduce their withdrawal of savings from voluntary funds (rate of tax levied on paid sum reduces by 10 % each year) 2005: Voluntary pension savings (as 10 years waiting period matures) can be used as collateral to bank loan in order to withhold members from consumption of future supplementary pensions

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ DRAWBACKS OF THE HUNGARIAN SCHEME Poor design as compared to the Bulgarian model and Anglo-Saxon funds Mutual ownership and general assembly is ineffective and inefficient, Exclusively formal decisions are made Weak guarantees Accounting and asset valuations are over-sophisticated in comparison to unit-pricing and keeping members’ account in unit-linked funds Frequent changes in legislation put a cost burden on operation (in percentage of contributions) Decentralised collection of contributions and parallel procuration processes in levying non-payers of private pension funds is rather inefficient and costly

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ CHANGES IN REGULATION OF INVESTMENT Milestones indicating the development of regulation of investments by funds 1996: obtaining supervisory authority’s approval to foreign investment was eliminated regulation on incompatibility of asset manager, custodian and fund managers 1997: OECD government bonds or securities can be held up to 5 % of assets 1998: concept of accruals instead of cash received & paid in accounting, asset valuation; performance measurement, annual returns according to uniform formula published 1999: Custodian is responsible for reporting on composition of assets and compliance 2000: Quarterly reports to supervision on investments and operation are largely simplified 2001: investment policy, and principles of asset management (i.e. targetted breakdown and duration of assets, furthermore a benchmark portfolio and returns in order to measure performance to be approved by fund management introduction of portfolio by choice system (voluntary pension funds) 2002: funds are obliged to open a bank account with the custodian and all transactions related to investment have to be recorded on this account; 2003: daily asset valuation (fund with assets over EUR 4 million); allocation of returns based on market pricing to members’ accounts; 2004: regulation of investment in real estates; matching the currency of assets with currency of emerging liabilities; 2005: 50 % limitation on investment in equities is eliminated; responsibility regarding the activity of custodian is stipulated.

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ PORTFOLIO OF FUNDS

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ ADMISSIBLE ASSETS TO PENSION FUNDS Asset classes specified in the legislation Short selling of papers is prohibited Cash of a maximum of HUF cca. 2,000 EUR at cashier’s office Balance on bank account and bank deposit Government papers (T-Bills, bonds, domestic or foreign, etc.) Corporate and non-state-guaranteed bonds and foreign equities are altogether maximised in 30 % of assets, each type limited to 10 % Balanced and equity funds are maximised in 50 % Mortgages maximised in 25 % of total assets Standard futures or options in relation to collateral security or arbitrage Repurchase agreement based on government paper limited to 20 % Real estate or real estate related investment funds up to maximum 10 % Investment outside OECD or EU countries are maximised in 20 % of total value of foreign assets

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ PROCEDURE OF INVESTMENT BANK ACCOUNT PENSION FUND ASSET MANAGER CUSTODIANKELER EMPLOYERS, MEMBERS         Financial assets Information, mandate Daily asset valuation Hungarian Clearing House SUPERVISORY AUTHORITY HFSA securities

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ KEY FIGURES

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ MARKET SEGMENTATION

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ MARKET PARTICIPATION – Mandatory Funds Based on number of members Based on assets in 2004

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ PRIVATE PENSION FUNDS, Assets & members

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ VOLUNTARY FUNDS, Assets & members

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ LONG TERM SAVINGS IN PERCENT OF GDP

Hungarian Association of OTP Pension Funds Pension Funds ‘STABILITAS’ THANK YOU FOR YOUR ATTENTION Should you have any questions, please contact in