EPFO's Equity Foray: Why, Like NPS, It Should Offer A Choice To Subscribers

At its last meeting on 29 and 30 July, the Central Board of Trustees of the Employees Provident Fund Organisation (EPFO) did not take up a proposal to raise the investment limit in equities to 20 per cent. The current limit is 15 per cent, and employee representatives on the board objected to raising the limit when the equity markets are volatile and returns can even be negative.

It is pointless explaining to union representatives and employees that equity is risk, and that returns can go up or down. In the long run equities deliver better returns than most other asset classes, but there is a point to their objections. When retirement funds are put into risky assets, workers have a right to worry about it. In fact, in 2019-20, when Covid ravaged the economy and markets, the EPFO’s equity-related investments lost value by 8 per cent.

The dilemma is simple: how can one benefit from higher equity investments without passing on all the risk to subscribers? Currently, the EPFO’s nearly 60 million subscribers have more than Rs 15 lakh crore of their retirement funds with the organisation. A 20 per cent limit means Rs 3 lakh crore being subject to short- or medium-term market risk.

The answer to the risk-reward dilemma is actually very simple: leave to choices to those who want to have a part of the corpus invested in equity or related investments (The EPFO largely invests in exchange-traded funds, not in shares directly).

There are actually two ways to de-risk equity investments. One option, as already noted above, is to allow subscribers to choose how much of their corpus, subject to sensible ceilings, they want invested in equity. The other, the more conservative option, is to allow subscribers to invest only a part of their incremental annual earnings in equity.

For example, if the corpus representing my share of the contribution is Rs 1,000 (including employers’ contribution), and at the end of the year I receive 8.5 per cent as return (which is Rs 85), the EPFO should be able to invest half this amount in equity, while reinvesting the balance in safe avenues like before. This way, I benefit from an increasing equity exposure without endangering my core corpus, which will also grow from annual accretions to it.

The key point to note is this: when there is risk, it is right to give the person on whose behalf EPFO is taking the risk to decide his or her level of risk-appetite. The organisation should not be taking an equal risk on behalf of those with varying risk appetites.