New Policy Restrictions to Impact PFAs’ Returns on Commercial Papers

The recent regulations introduced by the National Pension Commission (PenCom) regarding commercial papers are anticipated to lead to a decrease in returns for Pension Fund Administrators (PFAs). Starting in December 2024, PFAs will be restricted to investing solely in A-rated companies, while investments in B-rated companies will necessitate guarantees. This shift in policy presents a significant challenge for PFAs, as A-rated companies are predominantly multinational corporations that seldom issue commercial papers.

A-Rated vs. B-Rated Companies

The difference between A-rated and B-rated companies is primarily based on their creditworthiness. A-rated companies are recognized for their high credit quality and robust ability to fulfill their financial commitments. These firms usually boast a long-standing history of stable operations, strong financial performance, and a minimal risk of default. Conversely, B-rated companies are classified as having speculative credit quality, indicating a greater likelihood of default. Such companies may exhibit weaker financial metrics, a shorter operational history, or other elements that elevate their credit risk.

The stipulation that PFAs can only invest in A-rated companies may restrict their investment options, as these firms seldom issue commercial papers. This limitation could result in reduced returns for PFAs, compelling them to allocate funds to lower-yielding investments. Additionally, this restriction may adversely affect B-rated companies, which could find it more challenging to secure funding due to the heightened perception of credit risk. Consequently, this situation may intensify the difficulties faced by smaller enterprises and further widen the disparity between large and small businesses.

Market impact

Nigeria’s pension funds have progressively increased their investments in commercial papers, reaching N262.79 billion in 2023, before declining to N161.16 billion in 2024. The favorable yield environment has rendered commercial papers appealing, even amid rising borrowing costs. As reported by BusinessDay, the pension sector’s focus on commercial papers stems from the pursuit of higher returns, particularly as yields on federal government securities have diminished. The decision by PenCom is intended to improve risk management within pension fund investments. Pension Fund Administrators (PFAs) are permitted to invest only in commercial papers issued by corporations with at least an ‘A’ credit rating. Investments in entities rated ‘BBB’ may be allowed if they are backed by guarantees from sovereign-backed agencies or commercial banks that hold a minimum ‘A’ rating.

Potential consequences and Reactions

Some analysts contend that the newly introduced requirements will further limit financing options for small businesses that are already facing elevated interest rates. This situation could result in increased capital expenses for smaller enterprises while larger corporations may experience comparatively lower costs. Abdulrauf Bello, a portfolio manager at Cowrywise, remarked that the new regulations will “clip” the market, hindering smaller firms’ access to funding. He further emphasized that this could create a scenario where only larger companies can secure financial resources, leaving smaller businesses to struggle.

Oguche Agudah, the CEO of PenOp, acknowledged that while the new regulations aim to safeguard pension funds, they might inadvertently create challenges for smaller companies seeking funding. “We recognize that these regulations could impact the funding capabilities of smaller firms, but our foremost priority is the protection of pension funds,” Agudah stated.

The Nigerian Stock Exchange (NSE) has also raised concerns regarding the potential effects of the new regulations on the market. Oscar Onyema, CEO of the NSE, expressed worry that these regulations might lead to reduced market liquidity, as PFAs could be compelled to invest in a limited number of assets.

As the market adapts to these changes, it is essential for stakeholders to closely monitor the impact of the regulations and explore alternative investment opportunities to maintain returns and support the growth of the Nigerian economy.