NPS has only 8% adoption rate: Pension manager explains why

DSP Pension Fund’s Rahul Bhagat discusses the steps needed to attract investments in NPS, factors one must consider while investing and how investors should make the choice between auto and active asset allocation.

The National Pension System (NPS) is fast gaining ground as a retirement planning tool in India. Yet, actual adoption remains low, as only 7-8 per cent of corporate sector employees have enrolled. According to DSP Pension Fund’s CEO Rahul Bhagat, this gap stems from onboarding hassles, low distributor incentives and limited fund manager fees, all of which make the product hard to push and scale.

In this interview, Bhagat highlights the untapped potential of NPS and why the right ecosystem could turn it into a Rs 50 lakh crore industry. He also shares insights on DSP’s value-driven investment approach, what factors should first-time NPS investors consider while picking a pension fund manager and how they should make the choice between auto and active asset allocation.

NPS offers both active and auto choices for asset allocation. How should investors evaluate which option is better suited for their retirement goal?

It all depends on what your needs are. Many savvy customers who understand the nuances of the market can choose an active portfolio. For individuals who struggle to determine the optimal asset allocation and lack the time or expertise to adjust their portfolio over time in response to market conditions, I would recommend auto-allocation as the right choice.

Within that, we also have today a Balanced Fund, which is a new fund positioned between auto and active. The only difference between auto and balanced is that the allocation to equity decreases, not from age 35, but from a later age. What happens in asset allocation is that today, if you start with an aggressive option, your equity component starts decreasing from age 35 until the time you retire.

So, it's an auto-allocated plan, and automatically, more of the money is going towards debt, and your equity component slowly starts decreasing from age 35. Now, there was a lot of need or demand from customers who said that it's an early age. That's when the Balanced Lifecycle Fund was introduced by the regulator, which states that rebalancing will occur at a later age, not at 35.

When considering auto allocation, people should also consider the Balanced Fund, as it's a great option. However, as I said, it depends on your outlook on the market between the two. Do you have the time and market understanding to take those calls for your portfolio? If not, then you can choose auto allocation.

In auto allocation, you also have aggressive, balanced and conservative funds – depending on what you want and what your comfort or risk appetite is.

Can you share your investment philosophy, particularly in managing the equity portion of the NPS portfolio?

Yes. We adhere to a value investing philosophy, wherein we are very selective about the stocks and the prices at which we buy them. Therefore, valuation plays a crucial role in selecting those stocks. And if you look today, although it's actively managed, we only have 29 stocks from the BSE 200 index that we can choose from. Out of 200 stocks, we have invested in only 29 because the markets are overly priced, and finding the right stock at the right price or valuation is very challenging. We are very choosy and have a lot of patience about it.

So that's our investment philosophy. To put it simply, we invest only in businesses that are cash-generating over a long period. Clean management is not overly leveraged, meaning they don't have high debts. Only a few companies in the total portfolio, approximately 3-4 per cent, have debt on their balance sheets. Otherwise, they are debt-free, and we buy them at the right price; we don't pay if the valuations are high.

Given these filters, management needs to be clean, the company must be cash-generating and the stock must be at a fair price; that's how we choose companies for the portfolio. And because of this approach, our returns are where they are today, compared to those of others.

How do you collaborate with the DSP Mutual Fund equity team and leverage internal research in your investment process?

Broadly, what we align on is the risk framework. There's a very clear boundary in how we collaborate. We primarily coordinate on risk profiles and broader contours. For instance, we have a red list of stocks at a group level that we don't invest in based on that risk framework.

We adhere to a robust group-wide risk policy applicable across DSP Asset Management and DSP Pension Fund. So, we adopt those risk frameworks rather than directly importing other elements from the mutual fund side.

Our CIO has his own thought process. The mutual fund equity team has theirs. DSP Mutual Fund is significantly more evolved in its market approach. They have broader mandates, investing in large caps, mid caps, small caps and international markets, as well as passive and active funds. We're not as diversified. What we do is take the best practices, especially those related to risk, and the broader investment contours, and we implement them.

For someone investing in NPS for the first time, what should they look for when choosing a pension fund manager?

Excellent question. Unfortunately, many investors don't evaluate this deeply. Most people tend to look at AUM, but the size of assets under management doesn't necessarily indicate how good or bad a fund manager is.

What investors should focus on is the investment framework; what's the strategy behind the fund? They should examine the portfolio composition to understand the kind of companies the fund is investing in. Equally important is whether the fund manager is communicating their investment philosophy clearly and consistently.

Yes, fund performance is one indicator. It can help you evaluate how a fund manager has handled different market cycles. But past performance alone doesn't guarantee future success. What truly matters is whether the fund manager's philosophy aligns with your own risk appetite and investment goals.

In fact, very few pension fund managers today take the time to articulate their investment philosophy. We are among the first in the PFM (pension fund management) space to regularly publish a fact sheet and share a half-yearly investment note written by our CIO. I encourage investors to go through these materials. And if the approach and framework resonate with you, consider investing with us.

What policy changes or regulatory interventions do you think could boost NPS participation?

A lot can be done to boost NPS participation. In the private sector, there are two broad categories of investors: Retail customers and corporate sector employees. While around 21,000 corporates are currently registered under the NPS, the actual take-up rate among employees is just 7-8 per cent, which is very low considering the potential.

One primary reason for this is the complexity of the onboarding process. Even if someone is already KYC-compliant for other financial products, they must undergo the process again for NPS. This creates unnecessary friction. Then, there's the issue of low distribution margins. NPS is a low-margin product, and most distributors don't find it lucrative to sell. If you compare it with insurance or mutual funds, those offer better commissions, which is why banks and distributors actively promote them. In contrast, NPS offers almost nothing in terms of incentives, which is a significant barrier to scaling.

Unless distribution margins improve, even slightly, it will remain challenging to drive adoption. I'm not suggesting that the incentives should match those of insurance. Still, there needs to be a better balance between maintaining low costs for the investor and offering fair compensation to the distributor.

Currently, most mutual fund distributors and banks are not promoting NPS. Banks, in particular, focus on third-party products that generate higher income. Since NPS is also a third-party product but offers negligible margins, it tends to get ignored.

From the fund manager's perspective, cost is also a challenge. If we expect active fund management and alpha generation, then we must pay for good fund managers, research capabilities, technology and infrastructure. These things don't come cheap. Similarly, improving the investor experience, better servicing and smoother processes also require investment.

On the servicing and marketing front, a few key interventions could help. Can we remove or simplify KYC requirements? Can we make digital onboarding more seamless? And most importantly, can we discuss NPS further and market it more effectively to investors? Because despite being one of the best retirement products available, it rarely gets the visibility it deserves.

If the regulator addresses these gaps, whether in the fee structure, onboarding process, distributor support or broader marketing, the impact could be massive. Today, the NPS industry is around Rs 14-15 lakh crore in size. With the right push, there's no reason it can't become a Rs 50 lakh crore industry. The potential is there; we just need the ecosystem to support it better.

But if all of that happens, won't the cost also increase for investors?

Yes, it will. But look at it this way: If your fund manager is smart, they can generate better alpha.

Would you rather go with a manager who charges less but delivers 2 per cent returns or one who charges 25-30 basis points more and gives you 8 per cent?

I recently reviewed some data, and our fund has delivered close to 8 per cent returns, while another fund is at just around 2 per cent. That's a 600-basis-point difference. I think it's worth paying slightly more if you're getting a significantly better return on investment.

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