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New South African Legislation Looks to Ban Non-CBDC Crypto From Pension Funds

South African Finance Minister Enoch Godongwana has introduced a draft of legislation that describes restrictions on how pension fund member funds are invested, according to Regulation 28.

Under the old legislation, portfolio managers could invest up to 2.5% of member funds in a broad category of “other assets,” which was used to include crypto assets. Now, the new rules explicitly exclude cryptocurrencies in the new Government Gazette. The lack of protection for investors has led the South African regulators to express nagging suspicions about the speculative nature of cryptocurrencies, whilst simultaneously exploring the possible use cases for distributed ledger technology. Regulation 28 is the legislation that draws its clout from the Pension Funds Act to mandate how funds may invest. Part of Regulation 28 is to protect investors from investing too much in one particular asset class.

What is a digital asset?

The South African government defines digital assets as a digital representation of value that doesn’t emanate from a central bank but can be traded, transferred, or stored electronically by natural and legal persons, which applies cryptographic techniques and uses distributed ledger technology.

In the USA, one of the first pension funds to allow crypto assets to constitute a portion of members’ money was  Fairfax County Police Officers Retirement System in Fairfax, Virginia. In 2018, they started with a 0.5% allocation in a fund that was investing in blockchain-related enterprises and steadily increased it. Now, the fund allocates 7% to crypto-related assets.

Does crypto constitute a good asset class for a pension fund?

Simeon Ellis of XPS Pensions Group suggests four criteria for evaluating whether cryptocurrency, specifically bitcoin, is a good investment opportunity, which could be extended to pension funds:  

1. Is bitcoin a store of value?

2. Is it a source of interest?

3. Is it an expected source of capital growth?

4. Is bitcoin a risk hedge? 

Since bitcoin is so volatile, Ellis opines that it cannot be a reliable store of value. Interest is earned from lending money and some platforms do offer returns of 8-12% p.a., however, the volatility of bitcoin can eclipse the returns, Ellis suggests. 

The increase in daily transaction volume involving bitcoin will be a driver of its value. Hence, more transaction-driven users to offset transient speculators who may leave the market. Comparisons may be drawn to commodity markets, whose primary function is to drive supply chains, rather than deliver long-term returns. One could argue that, while seasoned investors may be able to generate long-term returns from trading commodity derivatives, an average bitcoin investor may not be able to generate long-term returns. 

Since many factors influence inflation, bitcoin may partially provide a hedge against local currency depreciation. If inflation results from higher raw material costs or expansionary policy leading to a surge in demand, this could increase prices in all currencies.

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