The Bank of Jamaica (BOJ) fears that currency volatility and missed International Monetary Fund (IMF) targets could result from allowing pension funds and insurance companies greater levels of foreign currency investments.

The BOJ stated in a just-published discussion paper that it is considering amending the foreign currency limits across the non-deposit taking financial sector but needs to weigh the costs and benefits.

For instance, the BOJ expects companies to reduce their holdings in Government of Jamaica (GOJ) securities and invest as much as US$1.3 billion in overseas instruments, thereby putting a strain on the currency and its reserves. Despite the concerns, the BOJ generally “supports the relaxation” of the foreign assets cap for pension funds and insurance companies within the next three years as it offers diversification.

“However, serious ‘negative externalities’ exist for the foreign exchange market and the net international reserves (NIR) which could destabilise the macro-economy if institutional investors are permitted to invest in foreign assets with wide-ranging discretion,” stated the BOJ in the discussion paper entitled Relaxing the Limits on Investment in Foreign Currency Assets for Pension Funds and Insurance Companies.

The discussion paper described the bank’s current position on the matter with the intention of submitting a final position paper and implementation plan by March 2016. It is currently accepting industry comments on the matter. The move to relax the cap partially aims to make these companies less vulnerable to GOJ shocks following instances like debt exchanges and rating downgrades.

It is estimated that insurance companies and the 14 largest pension funds would invest US$900 million in foreign currency investment over two years ending September 2017, according to the BOJ report references projections submitted to the Financial Services Commission. However, that figure would grow in scope and impact if securities dealers and collective investment schemes were to be included.

“Taking into account the respective foreign currency investment projections of securities dealers and collective investment schemes of US$1.3 billion and US$0.4 billion for the medium term, this demand threatens the attainment of the NIR targets under Jamaica’s Extended Fund Facility arrangement with the IMF,” the paper stated, then added that institutional investors could pose an additional threat upon enacting a one-off portfolio shift.

“Institutional investors could easily amplify volatility in the foreign exchange market as well as precipitously diminish the NIR if a large pool of domestic funds are suddenly redirected to foreign assets. This impact would be exacerbated if the pension fund and insurance company investors’ exhibit ‘herd’ behaviour as is typical of institutional investors,” it added.

The Government will allow securities dealers and CIS to increase investments in foreign securities from some 5.0 to 25 per cent of assets from December 2015 and remove the cap by December 2016 “unless extraordinary circumstances require a reassessment”. Additionally, the timeline for the first steps in lifting the cap on pension funds and insurance companies starts at the end of March 2017.

Consultations with representatives from the insurance and pensions sectors commenced with a meeting of the BOJ, FSC, Insurance Association of Jamaica, Pension Funds Association (Investment managers), and Caribbean Actuaries Association held on 5 June 2014. At this meeting the BOJ outlined the process involved in widening the classification of eligible investors and thus amending the applicable limit on investment in foreign currencies.

In February the Jamaica Securities Dealers Association (JSDA) requested further dialogue on the matter in order to expand the scope of investments permitted beyond investment grade securities. This would allow for investments in local companies issuing US dollar bonds, but which are constrained by the island’s lower than investment grade rating.