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THE CONTRIBUTION OF PENSION FUNDS TO

CAPITAL MARKETS DEVELOPMENT IN KENYA

Presentation By Edward Odundo, Chief Executive


Retirement Benefits Authority Kenya, During The NSE
Golden Jubilee Conference and 8th African Stock Exchanges
Association (ASEA) Conference, 23-26 November 2004
AGENDA

1. RETIREMENT BENEFITS INDUSTRY IN


KENYA

2. KENYAN PENSION REFORM

3. PERFORMANCE SINCE REFORM

4. PENSION REFORM AND CAPITAL


MARKETS
BACKGROUND
 The Kenyan economy had stagnated since 1997, growth in GDP had
averaged about 1.3% per annum upto 2002. Some recovery in 2003 and
2004
 Percentage of the population living in poverty increased from 51% in
1997 to over 56% in 2002.
 Savings and Investment have been low and declining. Gross investment
and savings as proportion of GDP fell below 10% between 2000 and 2002
Increased to 13.4% and 9.78% respectively in 2003.
 Public expenditure as a share of GDP is high but falling. As a result,
Kenya mobilizes a higher level of tax revenue to GDP than the average
of Sub Saharan Africa.
 The fiscal deficit has been rising; in 2002/03 Kenya recorded a deficit of
3.91% of GDP.
 The Kenyan stock of public debt has now increased to 70% of GDP.
BACKGROUND II
ÂAging population; the percentage of population aged over 65
in less developed countries is forecast to rise from around 5
per cent today to nearly 15 per cent by the year 2050

ÂResignation of individuals from the family unit occasioning


break-down of family-based retirement provision as a result of
urbanization and social changes

ÂDependency ratios are on the increase

 Low saving rates, low income and wealth,

ÂPension crises
KENYA RETIREMENT BENEFITS INDUSTRY

Civil National Occupational Individual


Service Social Schemes Schemes
Scheme Security
Fund
Legal Act of Act of Trust Deed Trust Deed
Structure Parliament Parliament
Membership all civil formal sector formal sector individuals
servants workers in workers in formal/informal
companies companies that sector join
with 5+ have schemes voluntarily
Funding Non-funded funded funded funded

Regulation Exempt Subject to Subject to RBA Subject to RBA


from RBA RBA
THE RETIREMENT BENEFITS INDUSTRY IN
THE THREE EAST AFRICAN STATES – A
COMPARATIVE ANALYSIS

Kenya Uganda Tanzania

NSSF$ 641m 142m 103m


Public Sector Unfunded Unfunded Funded
Pension Non contributory Non contributory Contributory
Scheme
Occupational 1300 Few None
Schemes Assets US$ 900
Individual Few None None
Schemes
RETIREMENT BENEFITS INDUSTRY
IN KENYA – ASSETS
US $ 1.8 bn
20% of GDP
Civil Service
Individual Pension Scheme
Retirement 0%
Benefits Schemes
1% National Social
Security Fund
38%

Occupational
Retirement
Benefits Schemes
61%
RETIREMENT BENEFITS INDUSTRY
IN KENYA- MEMBERSHIP
Coverage = 15% of Labour Force

Occupational Individual
Retirement Benefits Retirement Benefits
Schemes Schemes Civil Service
11% 0% Pension Scheme
22%

National Social
Security Fund
67%
KENYAN PENSION REFORM AGENDA
 To set out the objective of pensions as that of provision of economic
security to beneficiary and dependants

 Creation of strong links between contribution to and benefits from


pension arrangement

 Generation of long-term savings that will serve to develop financial


and capital markets that will in turn increase pension benefits

 Ensure proper regulation and supervision of pension administration


and investment of pension schemes’ funds by putting in place the
necessary legal framework to safeguard workers benefits.

 Reforms that put in place distinct separation of roles and checks and
balances within the pensions sector
ROLE & OBJECTIVES OF THE REGULATORY
AUTHORITY (RBA)
™Regulate and supervise establishment and
management of retirement benefits schemes.

™Protect the interest of members and Sponsors


of retirement benefits schemes.

™Promote the development of the retirement


RBA benefits industry.

™Advise the Minister for Finance on the


national policy to be followed with regard
to the retirement benefits industry.

™Implement all government policies relating


to the retirement benefits industry
REFORM SUPERVISORY APPROACH
 To initially enhance public confidence in Kenya pension sector, the
approach has been within a framework of prudential regulation;
supervision is therefore both proactive and reactive,
 RBA’s supervisory approach is consultative, and consistent and in
line with international best practice. The supervision strategy is
implemented by coordinating and undertaking supervision
activities. The main activities conducted are:
1. Initial registration
2. on-site visits;
3. prudential consultations;
4. analysis of quarterly statistical returns lodged by funds
5. analysis of annual statistical data lodged by all funds;
6. specific analysis; and
7. reaction to whistle blowing
THE REFORM ACT AT A GLANCE (I)
 Schemes must be funded

 Scheme must be established under irrevocable trust


unless established under written law

 1/3 Member nominated trustees on the Board of Trustees

 Schemes must Appoint separate Managers and Custodians

 Defined Benefits Schemes must avail actuarial valuations


every three years

 Schemes must ensure availability of annual Audited


Accounts
THE REFORM ACT AT A GLANCE (II)

 Schemes must ensure submission of quarterly contribution


and investment reports.

 There should be no assignments/attachment of members


benefits for debt /loan, judgment or for any other form of
impropriety

 Scheme rules should provide for immediate vesting of


members’ contributions and vesting of employer’s
contribution within a maximum of five years

 Schemes must ensure compliance with RBA Investment


Guidelines
INTERFACE BETWEEN TRUSTEES, MANAGERS
AND CUSTODIANS WITH REGARD TO
INVESTMENTS

Develop the investment Policy


for managers Managers
appoint a registered manager

and custodian
sign agreements with

custodians and managers


Trustees monitor the actions and

investments of the manager


and the custodian
evaluate the performance
of manager and custodian Custodians
CURRENT INVESTMENT PORTFOLIO
100.0

90.0

80.0

70.0

60.0

50.0

40.0

30.0

20.0

10.0

0.0
Cash Fixed Fixed Governemnt Quoted Unquoted Offshore Property Guaranteed Other
Deposit Income Sec Equities Equities Funds

Holding Max allowed


INTERNATIONAL INVESTMENT PORTFOLIO

100% 7.8 6.5


11.7

2.1 11.1
90%
1.9 Other
26.5
80%
30.9
Offshore
70%
7.0

60% Real Estate


53.1
11.4
50%
34.2 Equity
40%

30% 35.8
Bonds

20% 22.7
19.6 Cash &
Deposits
10%
8.1
4.9 4.7

0%
Kenya Europe USA
GROWTH OF PROFESSIONALLY MANAGED
INVESTMENTS
100 1000

90 900

80 800

70 700

Number of Schemes
Assets Shs Billion

60 600

50 500

40 400

30 300

20 200

10 100

0 0
Dec-01 Mar-02 Jun-02 Sep-02 Dec-02 Mar-03 Jun-03 Sep-03 Dec-03

Assets Shs Bn Schemes under Management

Excludes NSSF
GROWTH IN VALUE OF THE KENYAN BONDS
MARKET(KHS.BN)
 The Kenyan debt Market has over the years been dominated by government
securities. The first corporate bond was in 1996.
Shs bn

1996 1997 1998 1999 2000 2001 2002 2003

GOVERNMENT 8.2 37.8 58.98 34.51 38.13 86.58 128.03 178.4

CORPORATE 0.82 0.54 0.27 1.05 1.1 6.8 8.55 7.65

TOTAL 9.02 38.34 59.25 35.56 39.23 93.38 136.58 185.96


GOVERNMENT DEBT INSTRUMENTS I
 The Kenyan government total public debt stood at 711 billion or 70%
of the GDP at the end of 2003
 301 billion, which is 29% of the GDP and 42% of the total public debt
is financed from the domestic financial markets
 The key instruments for domestic borrowing by the government
have been treasury bonds and treasury bills.
 Recently there has been a deliberate shift of emphasis from short
term borrowing in form of treasury bills to medium and long term
borrowing in bonds.
 The upsurge in the bonds market is a very recent phenomenon given
that the government listed its first bond in the market in 1996.
 This has by and large been made possible by the reforms within the
pensions industry
 As a result the treasury bills rates are currently low
GOVERNMENT DEBT INSTRUMENTS II
PERCENTAGES OF TOTAL DOMESTIC DEBT

1999 2000 2001 2002 2003

Treasury Bills 58.7% 57.4% 43.6% 32.9% 25.5%

Treasury Bonds 14.9% 17.7% 36.2% 51.8% 59.2%

Long-term Stocks 1.6% 1.0% 0.7% 0.6% 0.4%

Non-interest bearing
treasury Bills/ Bonds 19.4% 19.1% 16.6% 14.7% 12.3%

Others 5.4% 4.7% 2.9% 0.0% 2.7%

TOTAL 100.0% 100.0% 100.0% 100.0% 100.0%


INTEREST RATES TREND IN THE 91-DAY TREASURY
BILLS (2001-2004)
12.0

10.0

8.0

6.0

4.0

2.0

-
Dec-01

Dec-02

May-03

Nov-03

Feb-04

May-04

Nov-04
Aug-03

Aug-04
Interest Rate
GROWTH OF INVESTMENT IN GOVERNMENT
SECURITIES BY PROFESSIONALLY MANAGED
PENSION FUNDS
45
40
35
30
25
20
15
10
5
0
Dec 2001 Mar 2002 Jun 2002 Sep 2002 Dec 2002 Mar 2003 Jun 2003 Sep 2003
PENSION FUNDS AND THE CAPITAL MARKETS I
 Encourage greater saving for retirement thereby increasing the
country's savings rate from the current 8% to over 25% of GDP
leading to capital deepening and therefore accelerate economic
growth
 Spur the expansion of the country's capital markets through
prudent professional investment of scheme funds. The pensions
industry in Kenya constitutes about 10% of the market
capitalization of the Nairobi stock Exchange.
 Provides a base for the necessary shareholders activism to ensure
capital markets regulations that impact on corporate governance
practices.
 The development of pension funds therefore influence capital
markets in three direct ways being through; enhanced investment,
introduction of new regulations in capital markets with impact on
corporate governance practices and thorough monitoring of conflict
of interest issues.
PENSION FUNDS AND THE CAPITAL MARKETS II
 The East Asian tigers achieved their double digit growths as result of
increased savings and investment at levels in excess of 30% of their
Gross Domestic products, notably Singapore and Taiwan.

 In Latin America the boost to savings and use of the funds in economic
infrastructure projects has been of great benefit to the Chilean economy
since the outset of pension reforms in Chile.

 It is instructive to note that South Korea per capita income in 1969 was
lower than that of Kenya at the time. Today as a result of harnessing
domestic resources and mobilizing saving, South Korea is a newly
developed country while Kenya is still considered at best to be
‘developing’.

 While the classical theory that ‘savings equals investment’ has long been
disputed, it is indeed true that in most countries there is a very close
correlation between the two and the level of capital markets
development
PENSION FUNDS AND THE CAPITAL MARKETS III
 Provoke development of new capital market instruments through
the diversification of pension schemes’ investment portfolio

 Promote Foreign direct investments, thereby increasing - in


diversity and volumes - the supply of capital market instruments

 Increase asset base of the retirement benefits industry through


encouraging adoption of prudent management principles; thereby
increasing the demand for capital markets products

 Enhancement of the development of a yield curves within the


fixed income segment of the capital market by providing long
term funds
PENSION FUNDS AND THE CAPITAL MARKETS IV

 Promote capital market integration by ensuring increase


participation of small scale investors through their pension
schemes.

 Acceleration of financial innovations

 Finally an improved pension industry demand shift in emphasis


away from development of banks per se, to development of capital
markets and other financial institutions along side banks
FUTURE REFORM AGENDA
 NSSF compliance and reform.

 Increase retirement benefits coverage through public


education campaigns and lobbying government for
greater incentives.

 Reform of Civil Service Scheme into a funded,


contributory scheme and bring it under the Retirement
Benefits Act:

 Collaborate with African and international institutions so


as to ensure Kenya’s retirement benefits industry
maintains best international practice
THANK YOU;
OPEN DISCUSSION!
Website: www.rba.go.ke