Minimising risks, key to growth in the pension sector- Financial Sector Stability Report reveals

By James Ratemo, jratemo@rba.go.ke Twitter: @JamesRatemo

The pension sector was resilient in 2018 despite a number of risks, the latest Financial Sector Stability Report for Kenya reveals.

The report, released on Thursday at the annual Joint Financial Sector Regulators Forum in Malindi, shows that pensions industry assets have grown from 696 billion in 2013 to KSh 1.2 trillion in December 2018.

Pension Sector report

The growth is attributable to prudent management and investment of scheme funds, and the reform initiatives targeting growing pension savings for workers in the informal and formal sectors.

“Pension coverage however, remained at 20.01 percent in 2018, although better than 18.6 percent in 2017.The industry assets were mainly in government securities and state-owned enterprises, property and equities,” reads the report in part.

Overall, the report indicates, global and domestic economic recovery, robust regulatory frameworks and improving macroeconomic environment minimized risks to the financial sector, hence stability and resilience recorded in 2018.

However, the report shows that Kenya’s financial sector is vulnerable to fragility in the global and domestic economies emanating from financial markets uncertainties; trade and geopolitical tensions; corruption, money laundering and financing of terrorism; and rapid adoption of financial technology and innovations.

However, sustained recovery in global and domestic economies increased consolidation through mergers and acquisitions and leveraging on financial technology is expected to buttress the sector’s stability and growth.

Despite the pension sub-sector growing, the faster growth in pension liabilities relative to assets as well as increasing life expectancy has elevated funding risks. In the Defined Contribution schemes, unremitted contributions have increased due to poor economic performance and the insufficient funding of quasi government schemes.

RBA CEO speaking to the press at the Joint Financial Sector Regulators Forum in Malindi on Thursday September 26 2019

Speaking at the forum, RBA CEO Mr. Mutuku Nzomo said the Authority is cognizant of these risks and has therefore revised the risk toolkit to effectively measure risks and adopt measures to mitigate risks unique to pension funds.

Mr Mutuku said the pension industry has been relatively stable with the overall risk score at 3.07 against the baseline of 3.22 in 2018.

“The risk index was computed from a revised risk assessment toolkit. It is below the target for the year set at 2.89, mainly because governance parameters have not been included in the toolkit due to delayed gazettement of the governance guidelines in October 2018. The overall risk score is therefore, expected to improve,”explained Mr. Mutuku.

However, the pension industry continues to face Investment Risks given high exposure to government securities and quoted equities, which are vulnerable to interest rate and market risks. Similarly, schemes, which have invested in corporate bonds and fixed deposit, face interest rate risks and solvency.

Schemes, which have invested in immovable property mainly buildings and land, face liquidity risks especially in cases where the retirees’ pensions are paid out from the scheme. Schemes also face inflation risk, currency (exchange rate) risk, and credit or counter party risk.

The industry has also noted emerging governance risks due to conflict of interest by either service providers, the trustees or the sponsor. The RBA has developed guidelines on the scope of investment, governance and treating customer fairly. Funding risks have also emerged due to increasing liabilities with inadequate assets.

This is compounded by the increasing life expectancy. In the Defined Contribution schemes, unremitted contributions have increased due to poor economic performance and the insufficient funding of quasi government schemes.

To address the identified risks, RBA has initiated policy measures consistent with each risk type and prevalence. To mitigate investment risks, RBA amended investment guidelines to broaden the asset classes for schemes, brining on board; private equity, real estate investment trusts and derivatives.

Schemes will also be allowed to invest in infrastructure projects under the PPP framework with dual goal of achieving the government developmental agenda and also ensuring members achieve a reasonable rate of return.

To deal with funding risks arising from unremitted contributions, RBA Act was amended to enable RBA intervene directly against Sponsors who fail to remit employee deductions and contributions to schemes as and when they become due.

To manage conflicts of interest and improve scheme governance, regulation 8 of the principal Regulations was amended to bar Board of Trustees from providing professional services to the schemes but seek independent professional services in the management of the scheme.

Similarly, fund managers and administrators amended section 34 of the RBA Act to penalize late submission of audited accounts, investment returns and contribution returns.

The pension industry is expected to perform better in 2019 on favourable economic growth that would support better return on stocks and properties

Kenya’s financial sector consists of deposit taking institutions (commercial banks and mortgage finance companies), microfinance banks and deposit taking Savings and Credit Co-operatives (Saccos)), non-deposit taking institutions (insurance, pensions, capital markets, and Development Finance Institutions (DFIs)) and financial markets infrastructure providers.

The sector is regulated by; the Central Bank of Kenya (CBK); the Sacco Societies Regulatory Authority (SASRA); Insurance Regulatory Authority (IRA); Retirement Benefits Authority (RBA); Capital Markets Authority (CMA) and Government Ministries.