In October 2016, the National Pension Commission (PENCOM) in a bold move to safeguard the nascent Nigerian pension industry ordered all participating insurance companies, with pension funds under their management, to move such funds to Pension Fund Custodians (PFC) of their choice. This directive, initially, met with a stiff resistance from the insurance operators and regulators alike but the PENCOM stood its ground.
The ensuing faceoff led to the suspension of all insurance companies from participating in the booming pension market. After a standoff which lasted many months, it took the intervention of concerned industry watchers to bring the warring parties to a consensus. At the end of it all PENCOM accomplished what it initially set out to do – tighter control over pension funds.
Recently, the PENCOM has taken the campaign of protection to yet another stakeholder in the industry namely, the Pension Fund Administrators (PFA). In a move set to shake the industry, the apex regulator has ordered all PFAs to adopt the International Financial reporting Standard (IFRS) for preparing their financial statements not later than the 2017 accounting year. A key feature of the IFRS is the fair valuation of assets. This simply means that assets in the Balance Sheet are valued at their current market prices.
Ordinarily, this directive should not be a source of concern to the affected parties. However, the recent regime of high bond yields in the country has led to a fall in bond prices. To the layman, this might sound contradictory but a key principle of bond portfolio management is the inverse relationship between bond prices and interest rates. In fact, this is a major risk associated with bond portfolios. The fact that over seventy percent (70%) of pension assets are in Government bonds makes the industry particularly susceptible to this risk.
A fair valuation of pension assets at this point, given depressed bond prices will likely result in a reduction of assets value in the balance sheet of the PFAs. The unit holders of retirement mutual funds managed by the PFAs will likely see a reduction in the value of their individual Retirement Savings Accounts (RSAs) as a result of this. This may not have any significant impact on RSA holders who are still in employment and have no immediate plans of making withdrawals from their accounts.
The potential victims of this loss of value will be those RSA holders who may need to make immediate withdrawals from their accounts. They could end up receiving a lower naira value per unit of their retirement fund. This is because the value of the mutual fund managed on their behalf by the PFAs is affected by the value of the underpinning assets. A drop in asset value will be reflected in the unit price of the mutual fund and ultimately in their account balance.
At any point in time, there are four classes of people who are permitted under the PRA 2014 to make withdrawals from their accumulated pension funds. These are: (1) an individual who may not have attained the retirement age but having been out of employment for three months can make a withdrawal of twenty five (25%) of the balance in their RSA (2) the beneficiaries of a deceased RSA holder who are entitled to the account residue (3) fresh retirees who want to access their lump sum payment while spreading out the balance in a periodic pension plan and (4) retirees intending to make a switch over from the Programmed Withdrawal to the life annuity pension mode.
The PFAs can of course avert an immediate significant drop in bond portfolio value and consequently individual RSA balances by holding their bond assets to maturity. In this case, the fair value of the bonds will not be affected by market interest rates but the yield to maturity of the bonds. This will be more in line with their current valuations. Some might argue that this would just be, “delaying the evil day” since the option of mark-to market could still be applied if significant withdrawals are made from the pool of funds under their management as might just be the case given the classes of people mentioned earlier.
Whatever scenario eventually plays out, PENCOM should be given kudos for been proactive in discharging its duties of regulating the pension market and safeguarding retirees funds.
Igboanu is an economist and an associate member of the Certified Pension Institute of Nigeria.