Pooling Pensions in Kenya

May 4, 2023

By Roger Atwood

With assets worth billions of dollars in local currency and growing, Africa’s pension funds are becoming vital sources of local, long-term finance. Years of regulatory reforms, policy support, and economic growth, plus coordinated efforts by respective governments to generate pipelines of new infrastructure projects, are paying off and turning pension funds into the key investors they have long been on other continents.   

In Kenya, where pension-fund assets now reach 12 percent of GDP, the Joint Capital Markets Program (J-CAP) has played a critical role in helping a pioneering association of funds to come together to support Kenya’s development goals in sectors such as affordable housing and infrastructure, with more investments on the way.

J-CAP is an initiative of the International Finance Corporation and the World Bank, both parts of the World Bank Group (WBG). Through World Bank expert advisory that helps to create the enabling conditions, coupled with advisory and co-investment by IFC, J-CAP supports Kenya and currently nine other countries, plus the eight-nation West African Economic and Monetary Union, to create the conditions to mobilize local capital to achieve their sustainable development goals and address environmental, social and governance (ESG) priorities.

Charles Ngatia Kaombe, an Agriculture Engineer, gives a demonstration of the Sunculture Rain Maker.
A solar panel based irrigation system along the Morie River in Makuyu, Kenya. Photo: Dominic Chavez/IFC

Africa’s pension-fund industries are at various stages of maturity and size, yet funds in many countries offer large, untapped opportunities to use local-currency financing for domestic infrastructure projects. In South Africa and its neighbor Namibia, pension funds have long been major, well-capitalized investors that are active in the capital markets, with assets nearly equal to GDP. Funds in Nigeria, Zimbabwe, Malawi, and several other countries have amassed assets that approach or surpass 10 percent of GDP.

But it’s in Kenya where one of the most promising initiatives has taken shape. Five funds joined forces in 2018 to create the Kenya Pension Funds Investment Consortium (KEPFIC) to pool knowledge and resources, with the objective of channeling assets into finance for Kenya’s strategic sectors while encouraging diversification of assets with good returns for the funds.

KEPFIC has grown progressively to 24 member funds and $5 billion in assets currently, about one third of Kenya’s total pension pot. Through consensus building, education, and support from development partners, KEPFIC has mobilized $113 million into two housing projects, with a third project in road infrastructure in the pipeline. A call for proposals in early 2023 brought about 50 potential projects, a dozen of them good prospects for investments, said the head of the consortium’s Secretariat, Ngatia Kirungie.

“Infrastructure is a new asset class for our members,” said Kirungie. “J-CAP provided the technical assistance such that our members are able to assess these infrastructure opportunities as they are brought to them by us, the Secretariat.” This included support for the institutional arrangement and governance to create KEPFIC, supplemented with significant capacity building, he said.

John Wambua irrigates the fields of papaya on the Green Belt Farm in Ngoliba Village.
John Wambua irrigates the fields of papaya on the Green Belt Farm in Ngoliba Village. Photo: Dominic Chavez/IFC

Yet as the potential grows for pension funds to finance infrastructure, ESG goals, and non-listed equity – the “alternative assets” that funds are increasingly seeking to diversify their rapidly growing portfolios – the obstacles they face are also coming into focus.

Safe, investment-grade projects in which to put savers’ money are still hard to come by, making it difficult for funds to diversify beyond the most traditional investments in sovereign instruments. In Kenya’s case, government bonds tend to offer a solid, 14 percent return, attracting pension funds’ financing.

And African pension markets are often extremely fragmented. Kenya has 1,300 pension funds, most of them tiny, single-company plans, while South Africa has more than 3,000. A few big funds dominate the market in both countries, while an ocean of smaller outfits lack the size or savvy to boost their savers’ assets with long-term horizons.

It was these challenges – a paucity of good investment prospects, extreme market segmentation – that KEPFIC was designed to overcome. Kirungie stressed that KEPFIC is an association of pension schemes, not a fund, so it does not have its own money to invest. From his office in Nairobi, Kirungie and others in the team present the member funds with suitable projects. The funds decide if they want to participate.

“When KEPFIC came together, its funds had been dutifully investing in traditional assets – stocks and bonds, mainly,” he explained. “But these did not give the funds the diversification they were looking for, and returns were lagging. They recognized that in infrastructure there was a great opportunity for pension-scheme participation that would allow that diversification and bring higher returns,” while providing long-term tenors to match long-term liabilities, he said.

They may be small by global standards, but pension funds in sub-Saharan Africa’s largest economies have grown big enough to have significant impact.

In Kenya, about 12 percent of the adult population is currently enrolled in a pension scheme, below the 20 percent average for the region but enough to bring the country’s current pension total to $15 billion. Like almost everywhere in Africa, Kenya’s population is young and growing fast, meaning the funds have many contributors while funds in more developed economies are drawing down.

“These funds are large and underutilized,” explained Fiona Stewart, lead financial sector specialist at the World Bank, speaking about pension funds in sub-Saharan Africa in general. “Capacity is improving. Regulation is improving. And they are growing, because these are young populations still paying in.” Most workers are in the informal or farm sector, so those contributing may be only “a small slice of the labor market,” said Stewart.

Kenya’s regulatory agency, the Retirement Benefits Authority (RBA), took a decisive step toward mobilizing pension funds for alternative assets in 2020 when it defined infrastructure as a distinct asset class and allowed pension funds to invest up to 10 percent of assets in that sector. Actual investments are well below that level, yet the changes reflected a recognition among regulators that funds can take advantage of long-term, stable returns while also aiding in the improvement of Kenya’s development.

The RBA’s move signaled to the market that the authority saw infrastructure as a sound investment destination for naturally conservative, risk-averse pension funds. The problem was that pension funds had no experience in investing in infrastructure, and virtually no guidance. This was where J-CAP was able to help, with due diligence and targeted capacity-building.

The funds needed to build capacity and understanding “on what a viable investment would look like,” said Swee Ee Ang, senior financial specialist at the World Bank and co-team leader of J-CAP (Kenya). The World Bank had worked with RBA to facilitate the regulatory changes and to mobilize private capital through pension funds to diversify beyond sovereign bonds. Ang continued, “There was a lot of thought put into [KEPFIC’s] governance structure, with a Secretariat that did not have conflicts of interests or that would bring in projects that shouldn’t be brought in. It was important to have experienced [people] coming to the Secretariat who understood the pension-fund industry.”

So far, KEPFIC has facilitated two investments from its members funds, with a third project, a road infrastructure bond, near closing – a slow start, perhaps, but reflecting both the cautious nature of pension funds and the shortage of attractive alternative assets. These projects line up with the Kenyan government’s development goals, or “pillar priorities,” which include affordable housing, green assets, and better roads.

The largest KEPFIC investment yet has been a $52 million investment in an affordable housing bond issued by the Kenya Mortgage Refinance Company (KMRC), which has been easing Nairobi’s housing shortage with low-interest mortgages in new complexes. KMRC was made possible with JCAP technical assistance as well as equity and debt financing through IFC. The establishment of KMRC has also been supported by World Bank loans worth $250 million.

KEPFIC also invested $11 million in university student housing construction through a real estate investment trust (REIT) established by developer Acorn Holdings.  The Acorn housing deal carried a blended return of 18.3 percent, compared to 14 percent for the typical sovereign bond, said Kirungie. The KMRC bond carried a return of 12.5 percent.

The up-and-coming investment will be a $50 million investment to expand roads in northeastern Kenya, known as Lot 3. Part of a much larger rural transport package, Lot 3 emerged from a public-private partnership (PPP) program developed with technical assistance from the World Bank. Road construction will be financed with a fuel levy paid by motorists.

One key question about KEPFIC is whether it can be replicated elsewhere in Africa – whether it is “scale-able,” and whether pension funds could form regional associations to pool resources. There have been few such initiatives so far, said Stewart, although “there is an increasing awareness of the inefficiencies of small funds.” The incentive to scale up and collaborate KEPFIC-style is certainly present, said Stewart, noting that Uganda’s pension schemes and Rwanda’s national fund, the RSSB, have billions in assets and are hungry for worthy local investments.

David Ashiagbor, Chief Financial Sector Strategy Officer at the African Development Bank in Abidjan, said funds elsewhere on the continent were watching Kenya’s case carefully and that the main obstacle to turning pension funds into infrastructure investors remained “the lack of product” – i.e., suitable investment vehicles – everywhere barring South Africa.

“Pension funds are conservative. And they should be, for very good reasons,” said Ashiagbor. But the appetite was growing, he said. “Every time there is an instrument which is structured properly, […] it’s oversubscribed.” Pension funds in Africa “are saying, ‘we want to diversify. We know we need to diversify.’”

J-CAP’s work in Kenya is supported by the governments of Norway and Germany and was previously also supported by the government of Japan. J-CAP’s wider work globally is made possible because of the support of the governments of Switzerland, Germany, Norway, Luxembourg, Australia, Japan, and the Netherlands. KEPFIC is also supported by the U.S. Agency for International Development.

Published in May 2023