CHAPTER
ONE

INTRODUCTION

1.1          Background to the Study

Over the past decades, pension fund management and administration
has received increased responsiveness in many countries (OECD, 2015). In recent
times, policy makers in many countries have been attracted to pension as a
source of an enabler for funded retirement savings by the maturing workforce
(World Bank, 1994), opting for numerous forms of pension scheme. Nigeria
embraced the contributory pension scheme subsequent upon the pension reform of
2004. In the contributory scheme, employers and their
employees contribute a percentage of the employee’s monthly incomes to a
retirement savings accounts from which they would after retirement draw their
pension benefits after retirement. Pension funds are currently amongst the key
institutional investment in the world financial and capital markets (Klumpes
& Mason, 2000).

Pension Fund
Administrators (PFAs) invest monies on behalf of
retirees in equities and other investment securities and assets to ensure
increased values.  They also save
for retirees, preserve assets, fund a pension plan and meet retiree’s spending
requirements (Wallick, Julieann, Christos & Joanne, 2012). To meet the
various needs of retirees or to ensure the performance of funds that is within
existing regulatory provisions, PFAs adopt investment
decisions and apply investment strategies or process, such as investment
style, asset allocation, risk profiling of funds. A good investment strategy
begins with the right allocation of assets that achieves the objectives of the
portfolio. The allocation must be centered on realistic expectations for risk
and returns, and should use varied investments in order to do away with risks
that are avoidable (Davis, Francis & Glenn, 2007).

Investments involve risk,
thus PFAs need to strike a balance between risk and potential return on
investment through their selected portfolio holdings (Wallick et al., 2012). It
is unethical and improper to carelessly invest pension funds on bad or
ill-advised investment, because these are entitlement of workers at point of
exit (retirement time). Due to the volatility and sensitivity of the pension
system especially in a developing country like Nigeria, successive government
have initiated reforms so that most employees will avoid not having enough
money to cater for their retirement (Awosika, 2009). For these reforms, it
became necessary that they discard old benefit schemes where government makes
provision to guarantee retirement benefits toward achieving a pay-as-you-go
scheme that are either fully funded or partially funded, where risks are borne
by contributors, and not the government (Amoo, 2008). The previously used scheme
lost its acceptability because of factors such as demographic developments,
future liabilities that are unfunded, multifarious fiscal deficits and lower
benefits for pensioners (Amoo, 2008).

The Pension Reforms Act (PRA, 2004) was created with contributions
from all stakeholders.  This act is
completely premised on individual accounts which are held and managed privately
by Pension Fund Administrators (PFAs). PFAs are financial institutions
established with the aim of accruing funds in order to meet projected pension
obligations of workers; they are saddled with the duty of devoting pension
contributions to ensure that profits are made (National Pension Commission,
2008). Thus, the bleak future of the retirees from public and private service
made it paramount for policy formulators in the country to set up pension
funds, which is contributory in nature, with part obligation on the employee
and part on the employers. The Pension Fund Administrators were licensed to
properly manage potential retiree’s funds.

The new pension scheme
appears to be on firmer grounds than the previous ones, however for the funds
to perform excellently, it still largely depends on the investment proficiency
of pension fund administrators (PFAs) and investment strategies adopted by the
PFAs. Despite the establishment of PFAs the process of selecting investment is
still complicated. On the average, investment selection have to go through
asset allocation (a method of determining how to allot an investor’s wealth
among different countries and asset classes for investment purposes) to
Strategic asset allocation (which involves outlining and fixing portfolio asset
allocations from the inception, based on historical performance data) and
investment style (Chen, Gary
& Kaplan, 2002; Reilly & Brown, 2012). If
this process are not understood and properly followed it will result in poor
fund performance.

Anthony and Mustafa
(2010) assert that investment decision is not just a mathematical selection of
expected returns on various risk profile, but a whole range of factors – such
as political, economic, social factors. Despite the need to risk profile a
fund, it does not guarantee capital security or a level of performance. Risk profiling entails identifying
the level of risk with respect to investment for a client, bearing in mind,
required risk, the client’s ability and strength to accommodate risk, and the
toleration level for risk (Resnik, 2016). These concerns, along with numerous
dynamics have enormous consequences on investment choices for Pension Fund
administrators. PFAs’ are entities that have the final say, in terms of
decision making. The duty of pension administrators entails allocation of
assets, industry by industry, on a yearly basis to ensure that they get maximum
returns on investment benchmarks pre-assessed on a particular fund. Allocation
of assets and investment style verdicts that are reached by handlers of these
funds for a long-term basis, stand as the bedrock of what makes up the
advantages to plan members, and also help give form to the economy of a nation
substantially (Tsado & Guru, 2011).

Fund managers can be
inactive, that is, just buying and holding funds or passively indexing just to
reduce transaction cost. On the other hand, fund managers can employ an active
investing strategy, a situation where they invest in a fund that is momentum
trading or “actively managed” (an attempt to outperform benchmark indexes)
instead of duplicating market’s returns, as seen with index-tracking or passive
investment funds (Blankfein & Cohn, 2010). Studies have also shown that on
the average, active funds cannot beat the market, thus corroborating the
findings of critics (Malkiel, 2003). Some authors like Morey (2005), Morey
& Gottesman (2006), Huebscher (2009), and Philips; Kinniry Jr.; Walker;
Schlanger; Hirt (2015), found dissimilar outcomes on
fund rating. Higher-rated funds were found to outpace
lower-rated funds.

Furthermore, according to Reilly and Brown (2012) the highest
compounded returns from the broad asset class, such as  bonds, Treasury bonds, corporate bonds, and
high-yield bonds, in the long run, will most likely accrue to those investors
with larger exposures to risky assets. The various moves made by PFAs, to make
investment in a certain asset class or otherwise hinge on different reasons and
their significance (Tsado & Guru, 2011). Also, there is a division of
thought and experience in the world of investing, and there are studies
suggesting that both sides are right. However, there is also a division among practitioners
as to which strategy is the best. There exists no backdoor or guarantees to
being successful when it comes to investing, however, sustaining a realistic
and methodical attitude to the art of investment may in some cases enhance the
possibilities of investment accomplishments as time progresses (Reilly &
Brown, 2012).

For accurate management
of pension by Pension fund administrators (PFA), it is imperative that funds
which are invested on behalf of the client (potential retirees), must toe the
line of the best and appropriate investment strategy to enhance fund security
and performance. The Investment strategy adopted by the PFA goes a long way in
determining how successful they perform, otherwise retirees both from the
public and private sector may face a miserable future (Ayegba, James &
Odoh, 2013). This study intends to explore and investigate deeply, the impact,
importance and extents that investment strategies go to in order to engender
fund performance. 

1.2   Statement of the Problem

Sule and Ezugwu (2009) assert that in the
past it has been established that some of the issues believed to be responsible
for the difficulty in accessing retirement benefits are poor documentation of
work history, lack of transparency and accountability by the operators of the
pension funds, and non-compliance by the operators of the pension funds to the
laid down processes in the scheme. At present, the new pension reform of 2014
confirms that the continuous review of pension’s regulations and gratuities in
the country without a well structured approach for funding the system has
become a key challenge that is creating untold economic hardship for retirees
(Ayegba, James & Odoh, 2013). This implies a researchable gap in the
operation of funds in Nigeria.

One major area of study
where theory do not match with practice or investment fails to deliver
consistent fund performance in literature is the investment strategy of fund
administrators. The close connection between poorly performing fund and
different investment strategies (such as strategic tactical and integrated
asset allocation, risk profile and regulatory influence) employed by
practitioners is still an evolving area of study. Studies have shown that in
some situations regulatory influence positively impact fund performance. In
some other cases, regulatory influence have a deleterious effect on fund
performance. For instance, German Pensions at the mercy of risk-based
regulations, commonly have less than the permitted maximum of 35% in equities
(Davis, 2013). But when the limits are enforced it leads to lower performance.
Thus, regulations which aim to protect fund can also limits investors from
achieving higher fund performance.

Stone, Chen, Marsella,
Rebekah, Nicholas, Paul and Michael (2015) posit that active strategies are not
necessary factors that can be used to aim at return maximization; instead, they
centre on risk mitigation, income generation, or social causes, amongst other
factors. In the US, Kremnitzer (2012), discovered that actively managed funds receive an average 3 year
return of 2.87% more than passively managed funds, however, a study by Carhart
(1997) conducted along these lines of thought, deduced that actively managed
investment funds have tended to under-perform their passively managed
counterparts.

With respect to the
Nigerian pension and investment situation where scholarly publications constantly
bemoan the plight of pensioners, especially regarding shoddy and irregular
payment of their pension entitlements, among other problems (Elumilade, 1999; Ogunbameru, 1999; & Idowu, 2006), fund
performance has not been investigated along the line of how investment style
and strategy impacts performance in the country. The varied results suggest
that incongruities exist across the world pension space, as such it is
pertinent to factor in the whole spectrum of investment strategy in other to
evaluate the effect on fund performance since the pension reform of 2004 (Odiah & Okoye, 2012)

Furthermore, close
analysis of fund performance literature both in Nigeria and outside Nigeria
revealed that apart from the scanty studies (especially in Nigeria) on risk
profile and regulatory influence effect on fund performance, there exist a
plethora of anomalies on the effect of 
investment strategies on fund performance. Studies did not clearly show
the effect of risk profiling and investment style on the performance of funds.
In addition disparate schools of thoughts, experts and fund managers have not
conclusively reported on the best strategy that brings about superior fund
performance. Thus, it is the aim of this research, apart from contributing to
literatures on fund performance also seeks amongst other things, to determine
the relationship between various investment strategies and fund performance in
Nigeria.

1.3       Objective of the Study

The general objective of this study is to examine the effect of
investment strategies and fund performance of selected pension fund
administrators in Lagos State, Nigeria. The specific objectives are to:

1.                 
identify the
effect of investment style on
fund performance of PFAs;

2.                 
determine the
effect  asset allocation has on fund
performance of PFAs;

3.                 
evaluate the
effect risk profile has on fund performance of PFAs; and

4.                 
assess the
effect of regulatory influence on fund performance of PFAs.

1.4       Research Questions

In order to address the objectives of
the study, the following research questions were designed.

1.                 
What is the effect of investment style on fund performance of PFAs?

2.                 
What effect will asset allocation have on fund performance of PFAs?

3.                 
By what means does the risk profile affects PFAs fund performance?

4.                 
What effect does regulatory influence have on Fund performance of PFAs?

1.5       Hypotheses

The objectives of the study and its research interest are under
consideration, therefore, the following null hypotheses were postulated at 5%
level of significance:

Ho1:       Investment
style has no significant effect on fund performance of PFAs.

Ho2:     Asset
allocation has no significant effect on
fund performance of PFAs.

Ho3:     Risk
profile has no significant effect on fund performance of PFAs

Ho4:     Regulatory
influence has no significant effect on fund performance of PFAs

1.6       Scope of the Study

This study focused on selected Pension Fund Administrators (PFAs)
and the strategic investment that is employed in guaranteeing fund performance
of the pension funds. With respect to coverage, this study only focused on the
following three selected PFAs: ARM Pensions, Leadway Pensure, and PAL Pensions.
The study was further limited itself to assessing professionals in the field
under observation, among other employees, because of their wealth of knowledge
in fund administration. With respect to geographical location, Lagos State of
Nigeria has been chosen as the area of study, because most of the PFAs have
their head offices situated in Lagos the commercial hub of the nation. The
sample size was determined using the formula recommended by Yamane (1967).
Primary data were used.

1.7       Significance of the
Study

It is the hope of the researcher that at the end of the study, the
result derived would uncover the benefits and shortcomings of investment
strategies employed by PFAs, in order to secure a brighter future for Nigerian
workers after their active service years. Furthermore, the management of the
concerned PFAs would find this research work very relevant in articulating
investment strategies. They would also be enlightened on how to properly invest
the pension funds of employees of various public and private institutions so
that they can obtain a better return on contributed funds. It shall also
provide the management of these PFAs with a framework for investing pension
funds. The existing active customers and retirees would find the work
invaluable as they stand to benefit from the improved service delivery and
returns that would be derived from improved fund performance and hence reap
higher pensions payment. The stakeholders in pension administration would find
in this research work, an important source of knowledge that is capable of
assisting them in making qualitative investment decisions. Specifically, the
government would benefit as future liabilities which used to be unfunded
reduces, derived from the advantages of deploying better investment strategies
by pension administrators. This research project would serve as a significant
repository of knowledge for students. It would further help their appreciation
of the topic and provide a bedrock for more studies on the topic and most
importantly, it is envisaged that it should be useful to public policy analyst,
particularly policy makers, scholars and the society at large.

 1.8      Operationalization
of Variables

The dependent variable in this study is
fund performance indicated by Unit Price. The independent variable is
investment Strategies; and the proxies for investment strategies are Investment
Style, Asset allocation, Risk profile, and Regulatory influence.

Y = f (X)

Y = Dependent Variable

X = Independent Variable

Where:

Y = Fund Performance

X = Investment Strategies

X = (x1, x2, x3, x4)

Where:

x1= {Investment Styles (INS)}

x2 {Asset Allocation (ASA)}

x3 = Risk Profile (RIP)

x4 = Regulatory Influence (REI)

Functional Relationship

Y = f (x1) ………………………………………………………………Equation 1

Y = f (x2)………………………………………………………………………Equation   2

Y = f (x3)…………………………………………………………… …Equation 3

Y = f (x4)………………………………………………………………………Equation   4

1.9       Operational
Definition of Terms

Investment: The action or process of investing money for profit.

Pensioner: A person who collects a pension, most commonly because of
retirement from the workplace

Pension: a programme established purposefully for workers, it entails the
monthly remittance of money into a dedicated account throughout the period a
worker is in active service, and payments are made from this account after the
retirement of the worker, in order to sustain him or her.

Asset Allocation: asset location is measured by strategic asset allocation,tactical asset allocation and
integrated asset allocation

Fund: A sum of money or other incomes set aside for a defined investment
purpose

Fund Performance: refers
to the returns from an invested pension fund quantified by the unit price.

Risk Profile: Risk Profiling functions as an indicator with respect to what
investors might anticipate in terms of fund’s volatility

Investment style: refers to
diverse style characteristics of equities, bonds or financial derivatives within a given investment philosophy. It can be active or
passive. It is the determined beliefs of the investor.

Investment manager: refers to a person or organization that makes portfolio
investments on behalf of clients in accordance with predetermined investment
objectives.

PFA: Acronym for Pension Fund Administrator. A PFA is a company that
has been given licensed by the federal government to manage pension funds and
pay pensioners their benefits in line with the Pension Reform Act

PENCOM: refers to the National Pension Commission which is the regulatory
body that ensures effective administration, supervision and regulation of the
Pension Schemes in Nigeria.

Regulatory Influence: these are restrictions and controls specified
by the Pension commission that must not be violated

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