Why government paper is preferred asset class for pension funds

An ageing workforce in the public sector has been cited as one of the key reasons why investment firms concentrate their assets under management in government paper, even as the regulator is pushing for diversification.

According to the Retirements Benefits Authority (RBA), Treasury bills or T-bills and bonds are among the top five preferred asset classes for investment firms, yet the regulator has a broad list of 15.

An industry report from RBA shows that as of June 2023, 47.79 per cent of pension funds were invested in government securities. Guaranteed funds follow with 19.19 per cent, property (immovable) 14.46 per cent, quoted equities 10.22 per cent and fixed deposits at 3.97 per cent.

Then, the retirement benefits assets under management stood at Sh1.6 trillion. However, RBA Assistant Director of Market Conduct and Industry Development John Keah noted that this figure has since surpassed the Sh2 trillion mark as per the returns filed by the regulator. “Even the guaranteed funds, 70 per cent of assets under management are under government securities,” he noted.

Britam Asset Managers Portfolio Manager Eric Karanja explained that the decision for concentration in these asset classes is informed by regulations as provided by RBA and also the age groups of a majority of workers in the public sector.

“RBA allows us to invest up to 90 per cent in bonds, up to 70 per cent in shares, but you can only do up to 15 per cent offshore,” he explained. “There is also the issue of a lot of workers ageing, especially in government and you need to be liquid.”

Mr Karanja explained that the flocking of pension funds in government securities while it is related to good returns as witnessed in 2024 is mainly to ensure the scheme members can access their money when they retire.

“There are multiple insurance firms, especially the big ones, which are really struggling right now because their money is held in property. Property is not that easy to offload,” he said.

According to the Annual Compliance Report for the 2023/2024 Financial Year detailing the status of compliance of the Public Service in relation to Article 10 and 232 of the Constitution, the average age of officers in the sector is 42.8 years.

“The workforce is relatively mature, with a significant proportion of officers in mid-late career stages and an upper quartile age of 51 years and above,” the report says. “The age range spans from 18 to 85 years, suggesting a diverse age group within the workforce, with a notable number of officers nearing retirement age.”

This trend, the report says, is evident across various service sectors, including ministries and State departments and corporations, Technical Vocational Education and Training Institutions (TVETIs), public universities, constitutional commissions, independent offices and statutory commissions and authorities.

The report says as a result of this ageing workforce, institutions need to develop and implement succession plans through identification and development of internal personnel within public institutions who have the potential to fill key leadership positions in the future.

This should ensure a seamless transition and continuity in carrying out institutional mandates and functions. “Institutions to develop phased retirement options by offering flexible retirement plans allows older officers to gradually reduce their working hours while mentoring successors, thus retaining their expertise for longer,” the report says.

Public Service Superannuation Fund (PSSF) Chief Executive Dr Jonah Aiyabei, whose institution manages the Sh187 billion pension fund for over 443,000 public servants, said the occupational scheme has a robust investment policy that is revised every three years.

“We have a very robust investment policy. It is the responsibility of the board of trustees on where the money is invested. The sponsor of the scheme (government) has no role. RBA provides that every pension scheme should develop its investment policy. This investment policy defines the area of investment,” he told Financial Standard.

He acknowledged that 2024 was a good year due to the returns offered from government paper with the expectation that the return on investment will be higher than the 11.9 per cent offered in 2023. “We still subscribe to the key mantra you don’t put your eggs in one basket,” he said.

Guaranteed funds and government paper in the East African Community (EAC) are the only two categories of asset classes that RBA allows 100 per cent investment.

Mr Keah, while addressing players in the pension sector in a recent meeting called by Enwealth Financial Services, said while there are 15 asset classes approved by RBA, most investment firms have concentrated in five traditional asset classes.

“While this aligns with a lot of schemes’ objectives, there are also opportunities in other asset classes that have been approved. I want to urge trustees to consider these asset classes and the opportunities therein,” he said.

RBA also allows up to five per cent cash and demand deposits in financial institutions licensed by the Central Bank of Kenya, up to 20 per cent in corporate bonds, mortgage bonds and fixed-income instruments, up to 10 per cent in private equity and venture capital, up to 10 per cent in debt instruments towards infrastructure or affordable housing and up to five per cent in derivatives.

In the RBA June 2023 industry report, only 0.44 per cent of pension funds are in corporate bonds, 1.36 per cent in offshore, 0.30 per cent are held in unquoted equities, 0.32 per cent in private equity, 0.62 per cent in Real Estate Investment Trusts (Reits) and 0.002 per cent in commercial paper and non-listed bonds by private companies.

The RBA report states that investment in alternative assets such as private equity and venture capital continued to be attractive to schemes due to their diversification effects, which increased by 50.76 per cent during the period, rising from Sh3.56 billion in December 2022 to Sh5.37 billion in June 2023.

“Investment in Reits increased sharply during the period – from Sh283 million in December 2022 to Sh10.64 billion in June 2023 due to the addition of unlisted Reits -Acorn Student Accommodation Development Reit amounting to Sh3.45 billion which was previously captured under-investment under the “any other assets” category and the investment in the Laptrust Imara Income Trust amounting to Sh6.92 billion,” the report says.

Mr Keah said that while considering other asset classes, the key thing is to consider the associated risks. “A key issue here is understanding and appreciating these opportunities and what the risks therein lie so that you(trustees) can make informed decisions for the benefit of the members’ resources,” he said.