Limited Investible Options: An Impediment to a Potentially Bullish Industry

Limited Investible Options: An Impediment to a Potentially Bullish Industry

Originally a government-funded social scheme, pensions have since evolved into a global industry driven by the private sector, with several variations of the original pension plan. The 6% annual average growth rate recorded in global pension assets in the past two decades to $56.6 trillion in 2021, estimated at 76% of GDP in the 22 major pension markets (P22), is not just reflective of the Industry’s robustness but also highlights its importance to capital markets across the world.

A burgeoning Nigerian pension industry

The Nigerian pension industry has transited from one with predominantly public sector participants running a defined benefit scheme to a mandatory defined contribution system for all government and private sector employees. In the last decade, the 628% surge in the size of pension fund assets to ₦14.27 trillion as at 30 June 2022 is indicative of the Industry’s growth and evolution. Agusto & Co. attributes this largely to the legislative support provided by the Pension Reform Act (PRA) 2004 and the amendment in 2014 which effectively redefined retirement planning in Nigeria and led to a significant boost in the number of enrolees and the size of managed assets in the Industry.

Robust regulation by the National Pension Commission (PenCom) continues to underpin the Industry’s expansion. In April 2022, PenCom announced that all the Pension fund administrators (PFAs) in Nigeria had complied with its increased minimum capital requirement (₦5 billion from ₦1 billion). Several mergers and acquisitions (M&As), including those involving FCMB Pensions and AIICO Pensions; Access Holdings and First Guarantee Pensions; as well as four notable M&As were the result.

Industry Hitches: an impediment to future growth

Unpaid pension obligations by some employers, enrolees’ apathy toward the transfer of PFAs, and the ability of Industry operators to protect the value of pension funds in the face of deteriorating macroeconomic conditions, particularly a weakening exchange rate and soaring inflation, are at the heart of the industry’s current problems.

The rising rates of emigration and unemployment in the last five years have slowed down the growth rate in pension contributions. If individuals who fall within these groups, who are eligible to access a 25% lump sum of their pension assets, exercise the withdrawal option, it could cause the growth of assets under management (AuM) to stagnate. The 3% decline in the Industry’s annual contribution remitted to the RSAs in 2021 underlines this growing threat. Furthermore, PenCom has approved the use of 25% of the amount of a pension contributor’s Retirement Savings Account (RSA) to pay for an equity contribution for a mortgage. While this may support the mortgage banks and the real estate industry, it will lead to a decline in pension AuM in the medium term.

The dearth of Investible Assets: Hope for the Future?

To protect pension assets, the current regulatory framework imposes stringent restrictions on investible outlets; with the majority of assets held in risk-free sovereign debt securities. While the increasingly hawkish stance of the monetary policy committee (MPC) of the Central bank of Nigeria (CBN) is leading to a rise in interest rates, yields on fixed sovereign debt securities (365-day T/bills: 9.75% in September 2022) remain low relative to the headline inflation rate which surged to a 17-year high of 20.52% in August 2022. The outcome is negative real returns on investment, which, when compounded, will lead to a contraction in the real value of AuM over time and implies that pension fund contributors could be worse off in retirement. This puts the question of diversifying investments into foreign-denominated securities, to improve returns and preserve value, under a renewed spotlight. This option is constrained by some factors, notably the prohibition on PFAs from acquiring foreign currencies directly through official channels. In addition, despite the PRA 2014 permitting investments in foreign assets, PFAs still require the President’s approval, which could be a lengthy and tedious process.

A Beacon of Hope

The operations, activities and prosperity of the pension industry are crucially hinged on the direction of PenCom’s regulation, which Agusto & Co. expects to remain robust given the Industry’s strategic importance to the Nigerian economy, and the need to more closely align the Nigerian pension scheme with international standards in the near term. Agusto & Co. also estimates that growth in pension assets will slow from a five-year average of 12.2% to c11% in 2022 due to a combination of a muted interest rate environment and a slowdown in the rate of contributions which has been impacted by mass emigration and high unemployment. We, therefore, expect pension assets to reach ₦14.8 trillion by the end of 2022.

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