Pension funds investments and economic development

01 Jul, 2022 - 00:07 0 Views
Pension funds investments  and economic development

eBusiness Weekly

Dr Keen Mhlanga

A great percentage of humans is employed at a specific organisation or institution however one cannot rely on his or her job forever. As financial analysts we encourage and advice individuals to plan for their retirement while employed. This is the norm for numerous citizens around the globe but the culture is quite different for civil servants.

Normally humans working under public or government institutions are guaranteed a certain amount of levy for their upkeep when they eventually retire. Hence the term pension has been adopted and applied to such a levy especially in developing economies. However private sector business corporations have adopted the same method of taking care of its employees after they have left the company, hence the definition of the pension fund evolved over the years.

A pension is a retirement fund for an employee paid into by the employer, employee, or both, with the employer usually covering the largest percentage of contributions. When the employee retires, she’s paid in an annuity calculated by the terms of the pension. Pensions are paid as an annuity, meaning over a regular, fixed period, to retired employees of an organization as compensation for past employment with that organisation.

A pension plan requires contributions by the employer and may allow additional contributions by the employee. The employee contributions are deducted from wages. The employer may also match a portion of the worker’s annual contributions up to a specific percentage or dollar amount. Pension funds typically aggregate large sums of money to be invested into the capital markets, such as stock and bond markets, to generate profit (returns). A pension fund represents an institutional investor and invests large pools of money into private and public companies.

Pension funds are typically managed by companies (employers). The main goal of a pension fund is to ensure there will be enough money to cover the pensions of employees after their retirement in the future. The main investment style of a pension fund is diversification and prudence. Pension funds aim for portfolio diversification, allocating capital to different investment instruments as stocks, bonds, derivatives, alternative investments.

However, for many years, pension funds were limited to investments primarily in government-backed securities, such as bonds with a high credit rating (investment-grade bonds) and blue-chip stocks. Since markets evolve and given a constant need for a relatively high rate of return, pension funds have been allowed to invest in the majority of asset classes. Nowadays, many pension funds have transferred from active stock portfolio management to passive investment instruments, investing in index funds and in exchange-traded funds that track stock indexes.

Emerging trends are to allocate capital to alternative investments, specifically to commodities, high-yield bonds, hedge funds, and real estate.

Portfolios of asset-backed securities such as student loans or credit card debt, are new tools used by pension funds to increase the overall rate of return. Private equity investments are becoming more and more popular among pension funds. They are simply long-term investments into privately-held companies. The goal of private equity investments is to cash out (sell a business) when the business matures for significant gains. Real estate investment trusts (REITs) are also quite popular among pension funds, being passive investments in real estate markets.

While several economic issues are brought about by the various developments of pension funds, it is important to consider that issues similar to these also emerge for least developed countries (LDCs). Thus, traditional methods for providing the elderly with care are disintegrating because of the rapidly ageing population, industrialisation, and ill-conceived social-security systems.

The successful development of private pension schemes entails a prior level of development in the financial sector, the absence of political interference, the availability of skilled employees and the economy’s administrative efficiency. Private pensions would often require free-market orientation as well as capital markets and administrative development that would further regulation. Since the 2008 global financial crisis, developed economies have been looking for additional sources of long-term capital to fill the gaps which bank and government balance sheets can’t fill.

This is a search that has engulfed the developing world for much longer if not for as long as they exist. Younger developing economies are starting to see their pension funds grow, side by side with an increasing awareness of the impact which productively invested assets can have on economic growth both today and tomorrow. If invested for the aligned intentions of social impact and financial return, pension funds can improve people’s lives today and secure their income in future.

Redirecting pension investments from short-term assets (government paper, bank deposits) to investments with a long-term impact is key to delivering, not only improved, but sustained returns. Private Equity investment is increasingly in vogue as such capital is the foundation of all economies, and indeed leads to the development of robust stock markets.

If structured with pension investors’ risk-return consideration in mind, it can deliver the diversification benefits which these investors need. If properly targeted, such investments will be vital in meeting the Sustainable Development Goals, considering that 15 of the 17 SDGs have a focus on growth, development and sustainability (the last two being on implementation and capital resource origination).

Active participation in investee companies by shareholders such as pension funds will be vital for ensuring a future sustainable and shared economy. he Government Employees Pension Fund (GEPF) of South Africa is an example of a fund which made such a leap. GEPF took the investment horizon out to 50+ years (beyond a generation) and implemented a portfolio with a social impact today, which simultaneously delivers financial returns. The fund is investing across the continent in education, health, affordable housing, transport and communication taking a lead and partnering with government(s) to meet society’s needs.

Other funds around the region from Botswana to Ghana to Namibia to Nigeria are also leading lights, which are shifting their philosophy and practice in this direction. Regulators are working with them to ensure that such investments are packaged and managed transparently and securely. Together these funds can help to deliver the UNGC Africa Strategy, which is gathering increased attention across the continent and putting Africans in the driving seat of change.

While in Zimbabwe, an analysis of data from the Insurance and Pensions Commission (IPEC)’s latest quarterly reports show that the total value of the country’s pension funds (consisting of insured funds, self-administered funds and stand-alone self-administered funds) amounted to just below $10 billion (approximately US$622 million). Of the US$622 million, US$244 million was invested in equities with US$225 million invested in property, while a total of US$47 million was invested in prescribed assets, with around US$28 million invested in cash or money market instruments.

In the new knowledge economy, Intellectual property (IP) is an important strategic asset for many companies, as it is the core determinant of competitive advantage of a company, which in turn is a key factor in creating business wealth.

Intellectual property can be an important strategic asset for Pension Funds and be a key factor in creating business wealth. Pension Funds are required at law to have a written Investment Policy Statement (IPS), covering at a minimum strategic and tactical asset allocation, performance objectives, trade execution, the use of external managers and establishing mechanisms for monitoring the costs of their services. This duty supports the adoption of a responsible investment approach to deploying capital into markets that will earn adequate risk adjustment returns suitable for the fund’s specific member profile, liquidity needs and liabilities.

In Zimbabwe traditional pension fund investments have continued to suffer due to the economic downturn and IP may provide another answer to the real need of hedging against currency and economic risk. The impact of Covid-19 (coronavirus) has been also been swift and severe on eroding Pension Fund Investments.

This has heightened the need for Trustees of Pension funds and Pension Fund Administrators to review and reconsider investments. In Zimbabwe, pension funds are required at law to invest at least 20 percent of their investment portfolio in prescribed assets. However, inflationary pressures have affected the level of returns investors can generate from such assets. As a result, Government, together with IPEC has moved to approve a number of alternative investments as prescribed assets to enhance the investment environment for pension funds. Pension Funds have thus been challenged to come up with alternative investments for prescribed asset consideration.

Pension funds can own intangible assets from innovative SMEs, universities and research institutions or even their own existing Intellectual property. IP may provide another answer to the real need of hedging against currency and economic risk and should be discussed extensively within the pensions industry. Investments in innovative SMEs or strategic partnerships with university innovation hubs would be a starting point.

It is, therefore, imperative that pension funds inject more funds into Intellectual property assets and ensure they move towards compliance and in projects of national importance which can be awarded prescribed asset status. This would be ideal in view of the long-term nature of the liabilities of pension funds of Zimbabwe.

In conclusion, good governance will be vital in achieving these goals. Decisions are dependent upon an appreciation of the macro/asset performance relationship, pension fund trustees understanding their role in the economy, changing the way they think about risk, building resources and sound ethics.

Dr Keen Mhlanga is the executive chairman of Finking Financial Advisory. He can be contacted on [email protected] Com or +263719516766.

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