Determinants of Commercial Banks’ investment portfolios in Kenya: 2007 To 2012

Abstract

In the Kenyan economy, commercial banks have expanded and opened many branches over the last few years. This has resulted in a tremendous increase in loans, government securities and placements portfolios. The question of what determines the level of investment portfolios of commercial banks in Kenya is therefore an important one. Nonetheless, decisions pertaining to investment portfolios especially in a developing economy like Kenya require a critical consideration of both internal and external factors. The study aimed to test and support the effects of the determinants of commercial banks’ investment portfolios and how they affect investment decisions of commercial banks in Kenya. The determinants included rate of return, deposit asset ratio, cash reserve ratio, liquidity reserve ratio, bank risk, interest rate elasticity, non-performing loans, fee income ratio, bank size and rate of inflation. The study used secondary data which was collected from banks’ annual balance sheets, income statements, Central Bank annual reports and Banking Survey 2012. Hausman and Lagrange multiplier tests were conducted to assess whether to use the fixed effects estimation or random effects estimation. The latter was favored and random effect maximum likelihood estimation was used. The study supported that there exists a functional relationship between the commercial bank’s investment portfolios and the determinants in the Kenyan context. It also established that cash reserve and deposit asset ratios have the greatest impact on the investment portfolios. The study recommended that commercial banks need to consult with the government whenever a policy regarding cash reserve requirement is made. The banks should also mobilize deposits to enhance their investments. Therefore, a critical, realistic and comprehensive strategic and financial plan should be formulated.