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  Pension: Multi-fund - Will variable assets Blow-Up or Blow Over?

      

20 July 2018 ( Lagos ) : The pension fund assets continued its ascent, rising by N581 billion between year-end 2017 to April 2018, to print at N8.1 trillion, reflecting contributions (est. N174 billion) and more importantly, gains in assets. In terms of allocation, while FG securities remained the heavy weight, analysts saw renewed appetite for corporate debt (+32.9% to N354 billion) and alternative instruments (+17.84% to N306 billion). Elsewhere, the Multi-fund structure finally kicked off on the 2nd July with a six (6) months window for implementation. To recall, PFAs are expected to divide existing retirement savings account (RSA) funds in four (4) distinct funds based on the age and stage of the contributors.


In trying to estimate the impact of the re-allocation of funds to variable investments and the market, analysts ran a scenario analysis based on market survey to estimate the split in current RSA active to Fund 2 and 3. Their estimate revealed a split in RSA active to Fund 2 and 3 of 61% and 39% with estimate portfolio size of N3.3 trillion for Fund 2 and N2.2 trillion for fund 3. 


Their findings reveal that government securities seem to have breached its limit which implies a possible rebalancing of ~ N95.7 billion from government securities. On another end, alternative instruments, which currently accounts for ~0.5% of pension assets, is a far cry from the new minimum limit of 2.5%. Therefore, analysts expect a minimum flow of N54.5 billion into alternative instruments.


Elsewhere, given that the industry’s compliance to minimum equity allocation is largely skewed by 9 PFAs, analysts expect a flow of new funds into the equity market as the other PFAs strive to comply with the new investment guideline. Consequently, they expect a minimum of N81 billion into the equities market however, they see little scope for an equity gyration. Overall, while the start of the multi-fund structure bodes well for alternative investment, they are likely to see a more cautious increase in exposure as players scamper for limited comfortable assets in the alternative space.


In this report, they focus on developments in the pension industry over the first half of 2018 as well as the recently implemented multi-fund structure and its impact on the market.


Hunt for asset yield fuel appetite for seemingly risky assets


Domestic pension fund assets continued its ascent, rising by N581 billion between year-end 2017 to April 2018, to print at N8.1 trillion, reflecting contributions (est. N174 billion) and more importantly ,gains in assets. In terms of allocation ,as with prior years ,fixed income securities remain the heavy weight with allocation of 69.35% (Dec 2017: 69.49%). 


For us, the reduced allocation mirrors sell offs at the long end borne out of declining government yields. Accordingly, pension fund holdings of FGN Bonds declined by 1.2% to N3.9 trillion while the quest to stay short fueled expansion in treasury bills (+37.5% to N1.6 trillion). Away from fixed income instruments, equities grew by 3.29% to N802 billion driven by mark-to-market gains on equities. 


However, allocation to equities dropped to 9.9% (-0.4pps) as CPFAs shortened exposure to foreign shares by 41% to N61 billion, which, in analyst's view, mirrors re-allocation of funds by CPFAs as their holdings of real estate properties increased by 20% in the review period.


Surprisingly, analysts saw increased appetite for risk assets in the review period, with allocation to corporate debt and alternative instruments increasing to 4.4% (+0.8pps) and 3.8% (+0.3pps) respectively. Precisely, corporate debt grew by +32.9% to N354 billion, while alternative investments grew by 17.84% to N306 billion. Analysts believe declining government yields increased the appetite of fund administrators for seemingly risky assets in search for higher returns.


Bucking the odds of multi-funds or playing safe


The Multi-fund structure finally kicked off on the 2nd July with a six (6) months window for implementation. To recall, PFAs3 are expected to divide existing retirement savings account (RSA) funds in four (4) distinct funds based on the age and stage of the contributors. 


This implies three (3) RSA Fund types for active contributors and one (1) Retiree Fund for retired contributors. Thus, while fund 1 is an optional fund and will be null at inception, active contributors within the age of 18 – 49 years and above 50 years will be moved to Fund 2 and 3 respectively, while retiree savings will be moved to Fund 4. 


In terms of switch, contributors in Fund 4 will remain static, while contributors in Fund 3 can only move to Fund 2 and those in Fund 2 can only move to Fund 1. In addition, effective from the date of implementation, contributors in fund 2 and 3 are permitted to switch, at no extra cost, to either of the first three funds once in12 months – while subsequent transfers within same period would attract a flat fee of N1000.


Varying Variables across Funds


Where the multi-fund differs from the prior framework is the guided exposure to various financial instruments—particularly the variable instruments which includes investments in ordinary shares, mutual funds, real estate investment trust (REIT), infrastructure, and private equity funds. For context, variable instruments under the prior framework of retiree (Fund 4) which was solely equities now includes mutual funds, REITs, and ETFs. 


In addition, relative to the previous framework where no minimum exposure was required, the RSA active funds (Fund 1, 2, & 3) are required to have a minimum exposure to variable instruments of 20%, 10% and 5% respectively. However, of the required minimum exposure to variable instruments, PFAs are mandated to separately invest a minimum of 2.5% of its portfolio value in alternative instruments for fund 1 and 2.


Away from the variable instruments, changes to prior guideline include maximum limits to government and corporate fixed income instruments with increasing exposure as contributors move from fund 1-3.


Will variable assets Blow-Up or Blow Over?


In trying to estimate the impact of the re-allocation of funds to variable investments, analysts ran a scenario analysis based on market survey to estimate the split in current RSA active to Fund 2 and 3 with the aim to project the impact of the rebalancing process on variable assets, considering that RSA retiree moves entirely to fund 4. As it stands, the previous RSA retiree fund aligns with the investment guideline for Fund 4. 


However, the story differs for the RSA active. From analyst's survey with six (PFAs), whom accounts for ~70% of overall pension assets, the average estimate revealed a split in RSA active to Fund 2 and 3 of 61% and 39% respectively. Overlaying the respective split with current RSA active fund size of N5.5 trillion, analysts estimate a portfolio size of N3.3 trillion for Fund 2 and N2.2 trillion for fund 3.


Next, analysts applied the required limit for each financial instrument to each fund to determine the blended investment limit for fund 2 and 3. Their results reveal that while variable instrument, corporates, money market and supra national bonds remain below investment limit under the new structure, government securities seem to have breached its limit. For context, blended maximum limit for Fund 2 and 3 in government securities comes to 74%, lower than existing allocation of 75.6%. This implies a possible rebalancing of ~ N95.7 billion against government securities.


Also, alternative instruments, which currently accounts for ~0.5% of pension assets, is a far cry from the new minimum limit of 2.5%. Therefore, analysts expect a minimum flow of N54.5 billion into alternative instruments which should drive the efforts of regulators in pushing funds to other sectors of the economy.


Elsewhere, the table above shows over compliance in terms of minimum allocation to equities and mutual funds—which is 7.5% and 5% for fund 2 and 3 in that order—analysts note that this number is largely skewed by nine (9) PFAs that accounts for 75% of the overall pension assets (N5.5 trillion), and overly-comply with the minimum allocation, leaving the remaining assets at N1.4 trillion. Thus, due to dearth of hard data, analysts played some scenarios on their allocation (the 12 other PFAs) to Fund 2 and 3, juxtaposed with the required minimum allocation to equities and mutual funds. 


Their analysis reveals that a minimum of N81 billion is expected to flow into the equities market as current industry allocation suggests the administrators are more comfortable with investing in equities relative to mutual funds5. However, relative to the 12-month average value traded of at N98 billion and the 6-month window to comply with the new investment guideline, analysts see little scope for an equity gyration. 


Elsewhere, given the declining FG yields, they perceive the renewed appetite seen for corporate bonds would persist, though with caution. Though the start of the multi-fund structure bodes well for alternative investment, they are likely to see a more cautious increase in exposure as players scamper for limited comfortable assets in the alternative space.


Reporting for EasyKobo on Friday, 20 July 2018 in Lagos, Nigeria


Source: ARM Securities Limited


NOTE - THIS ARTICLE PUBLICATION IS COPYRIGHT OF ARM SECURITIES LIMITED AND NOT TO BE REPRODUCED OR REPRINTED IN ANY FORM WITHOUT THE EXPRESS PERMISSION OF ARM SECURITIES LIMITED.




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