Nigeria’s pension fund investors and pension savers should be afraid and worried in 2020. On the average, the RSA pension fund category netted about 13% return in 2019, so did the Retiree Savings Account category of pension funds.
While that is a commendable performance in a year where the Nigeria Allshare index lost about 16% of its value, that same feat may not be repeated in 2020. Did I hear you ask why?
Falling Interest Rate
One thing that characterized the Nigerian Economy and the Nigerian capital market in 2019 was the fast decline in yield or interest rates towards the end of the year. The Nigerian 10-year Bond Yield, which opened the year 2019 at 15%, is poised to close the year at around 11% or less and other tenors are currently trending at single-digit interest rates.
Nigerian Treasury bills and Commercial Papers are even worse. According to the latest FMDQ Daily Quotation List, a Commercial Paper with 191 days to maturity traded at 6.19% while one with 282 days to maturity traded at 5%. A case of inverted yield.
An analysis of the most recent Pension Assets Report released by the Nigeria Pension Commission shows that 46.66% of total pension asset is invested in FGN Bonds, while 22.82% is invested in Treasury Bills, instruments that are directly impacted by trends in interest rate.
Lower interest rates mean lower returns from such investment types. Though the coupon rates on the FGN bonds that the pension funds are already invested in will not change, (unless the bond issuers decide to refinance such bonds), they, the pension funds, will be adversely affected if majority of the bonds mature in 2020.
In that case, the pension funds will have to face the reinvestment risk of finding bonds with similar coupons. A tall order indeed. Unfortunately, the inverse relationship between bond prices and interest rate will mean that at the point of reinvestment, such bonds will cost more to buy. With Treasury Bills and Commercial Papers being short-dated instruments, the effect of the falling interest will be felt more in those types of instruments as they are prone to mature within the year under the current low-interest-rate regime.
One statistic that means a lot to retirees and pension plan savers is real rate of return. Real rate of return is the nominal rate of return less inflation. In a layman’s language, it is the rate of return that shows what your investment return can purchase, given current price level.
With inflation inching upwards in Nigeria, and interest rate going the opposite way, pension plan savers may be subjected to double “punishment” or double jeopardy. According to economists, falling interest rates are prone to causing inflation, if that happens, pension plan savers may be in for the worse.
What to Do to Remain within Plan
In a situation like this, those saving for retirement should think of what to do to remain within their planned retirement objectives. There are two broad sources of pension plan asset: contribution and income. Those two combine to lead to increase in pension assets. When one falls, the other has to increase, otherwise, pension assets will decrease. Therefore, to maintain your retirement savings objective in light of the potential for a decrease in income or return, you have to increase your monthly contribution.
I did a piece, not too long ago, on the need for additional voluntary contribution; now is the time to embark on that if you do not want to be caught “pants down” with some deficit in your retirement savings account balance in 2020 and beyond. To double your money in 10 years, for example, you need about an average annual return of 7%. As the rate of return decreases, so does the number of years required to double your money increase, if you do not increase the contribution.
Eurobond Mutual Funds to the Rescue
Pension Plan Managers should go to work, by looking for alternative sources that can help them increase return for their clients and investors, as long as it is within the regulatory permission granted them by the Pension Reform Act of 2004, or the like.
One of such investments is Eurobond or Dollar denominated mutual funds. Though return on those mutual funds is driven by interest rate, they have the potential to insulate the effects of falling interest with changes in exchange rate. With the Naira slightly depreciating against the dollar continuously, investing in Eurobond mutual funds may be a way to stay afloat.