On probability of ruin in retirement based on contribution rates in a pension scheme

Abstract

The main objective of this dissertation was to show that contribution rates can be used to minimize the probability of financial ruin in retirement within a pension scheme within the Kenyan pension industry and help develop an easy to implement rule which can be used by pension scheme members as well as advisers to pension schemes. Most of the Kenyan pension schemes are defined contribution in design and this means that the risk of investment is largely borne by the employee hence the need to relook at how this can be managed within a pension scheme. This risk is both at accumulation stage (investment risk) and also at retirement (longevity risk). Nearly 90% of Kenyan retirees depend on pension benefits to support their financial needs in retirement hence these members would need to consult proper expertise in relation to how much they would need in retirement and how much they would need to contribute towards a pension scheme at rates that can guarantee them that their retirement savings will last them in their retirement life. Using the concept of ruin theory and exponential functions and their translations, results showed that the probability of ruin can be steered to a minimum by varying contributions rates into a pension scheme. An easy to implement rule was developed and implemented on Microsoft Excel which can be used by pension scheme members to help the scheme members ascertain the extent of financial ruin within a pension scheme andhow they can vary their rates of contributions into a pension scheme early enough before normal retirement and thereby minimize the potential risk of ruin. .