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YourSuper will save $17.9 billion! Surely you’re joshing

In the 2020 Federal Budget, Treasurer Josh Frydenberg delivered a surprise for the superannuation industry. He announced the introduction of a ‘Your Future, Your Super’ package, which included:

“members will have access to a new interactive online YourSuper comparison tool which will encourage funds to compete harder for members’ savings.”

The full 40-page explanatory document is here and the fact sheet summary is here, including:

“By 1 July 2021, MySuper products will be subject to an annual performance test. If a fund is deemed to be underperforming, it will need to inform its members of its underperformance by 1 October 2021. When funds inform their members about their underperformance they will also be required to provide them with information about the YourSuper comparison tool. Underperforming funds will be listed as underperforming on the YourSuper comparison tool until their performance improves. Funds that fail two consecutive annual underperformance tests will not be permitted to accept new members. These funds will not be able to re-open to new members unless their performance improves. By 1 July 2022, annual performance tests will be extended to other superannuation products.”

How do we measure underperformance?

Objective measurements of super fund performance have practical limitations that make comparisons difficult. Changing funds based on these results will deliver unpredictable and even counterproductive consumer outcomes. As the MySuper Product Heatmap already produced by the Australian Prudential Regulation Authority (APRA) shows, comparisons and disclosures are difficult to understand. Most people will struggle with the most basic aspects of adjusting performance for risk.

On disclosures, the Australian Securities & Investment Commission (ASIC) recently stated:

"Disclosure cannot solve complexity that is inherent in products and processes. Simplifying disclosure, for example, does not reduce the underlying complexity in financial products and services. Nor does it ease the contextual and emotional dimensions of financial decision making, both at the point of purchase and over time."

Let’s take a simple example of two super funds, Fund A and Fund B, which sit in the same risk bucket of 60% to 80% growth. Both are managed by well-qualified, experienced teams offering diversified asset allocations designed to maximise returns over the long run.

Here are the views of both teams in managing their funds.

Each of these choices can influence the outcome depending on market conditions. Treasury has indicated fund performance will be measured over eight years, but factors can have long cycles which look favourable until the market turns.   

Defensive versus growth assets

There is no industry standard on the definition of growth or defensive assets (although a team is working on it). Some argue that since infrastructure assets have guaranteed long-term cash flows, often linked to inflation and government contracts, they have strong defensive characteristics like fixed interest. Furthermore, unlisted assets are not subject to the daily vagaries of stock market valuations and therefore have far greater price stability.

For example, Hostplus states:

“Unlisted assets – including infrastructure, property and private equity – continue to provide important downside protection as they are not directly linked to equity markets.”

APRA's heatmap on Hostplus assessed its MySuper product as having a 93% allocation to growth assets, despite the fact it is usually in the 60% to 80% section in league tables. Hostplus argued 93% was misleading because some of its defensive assets had been placed into growth by APRA.

Clearly, if risk markets are doing well, a fund with higher allocation to ‘growth’, such as at the 80% end rather than 60% end of the 60/80 spectrum, will do well in a performance comparison. But they are simply taking more risk, they are not managed better.

Then when the market struggles, such as in March 2020, the defensive funds benefit. Some super funds were forced to revalue their unlisted assets to ensure prices more accurately reflected the poorer outlook. Who could claim an unlisted airport had not fallen in value after COVID-19 when listed airports had halved in price?

Contrast Hostplus with the approach taken by UniSuper, which writing to its members in March 2020 advised:

“We have a relatively low exposure to unlisted assets in our diversified options (about 7% for the Balanced option). We think of property and infrastructure as ‘growth’ assets so they don’t qualify for inclusion in our defensive allocation.”

When superannuation funds take such varying approaches to defensive and growth definitions and allocations, their risks and performance are difficult to compare.

Growth versus value style

It’s the same across a wide range of investment beliefs. In equities, ‘value’ versus ‘growth’ investing is a classic example. Historically over long time periods, value had outperformed growth, and many of our leading fund managers have built their businesses arguing that buying value companies below their intrinsic value are better investments than growth companies at high Price to Earnings (P/E) ratios. But as the table below shows for the Australian market, over the three years to 30 June 2020, growth outperformed value by over 6%. Over one year, growth was worse by 9%.

Neither is wrong and both have their day. There are performance differences based on where we are in the market cycle, not ‘underperformance’. The Government’s proposal could lead to a super fund informing its members of its inferior performance just as the cycle turns in its favour.

Lonsec value versus growth peer group performance to 30 June 2020

Leading research house Lonsec says about the outperformance by growth over three to seven years:

“But how long can this run last? Dispersion between these two styles has not been this high since just before the tech wreck at the turn of the millennium, which saw value overtake growth as the predominant style ... This begs the question: Are we due for another correction?”

When will the market fall out of love with tech stocks and return to more fundamental industrial stocks? Probably after the YourSuper comparison tool gives the wrong signal.


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Many factors influence performance

We could go on. A fund manager may take a strong sustainability position against fossil fuels just as oil prices rise rapidly. Should they be punished for saving the world? Another fund may hold government bonds in its defensive allocation as interest rates rise rapidly, losing their defensive characteristics in the comparison period. Of course, the bond will repay at par on maturity but by that time, the damage is done.

At industry funds, insurance arrangements for members are often unique to the relevant industry, and cheaper than comparable insurance in the public market. For example, many Mine Super (formerly Auscoal) members are miners who need protection in a risky industry, and the fund has negotiated attractive group prices. What happens with insurance when an apprentice coal miner starts work if Mine Super is unable to accept new members? 

The fear is that superannuation fund trustees become so worried about the fund closing to new members and the shame of public underperformance that they stop the investment team backing its views. The CIO who decides the market outlook is poor and wants to take a more defensive position to protect member capital may be prevented from doing so or be forced to reverse a position if timing is wrong in the first year. The trustees who cannot tolerate the poor results will push the CIO to return to industry risk-weighting, or switch to passive management to ensure close-to-market performance.

It is common for a fund manager to lead the league tables over one period and be bottom of the pile over another, and few stay in the top tier over all periods. Some hog the index because business survival is often more important than market performance.

Will this performance tool have an impact?

The Budget announcement says:

“By 1 July 2021, MySuper products will be subject to an annual performance test. If a fund is deemed to be underperforming, it will need to inform its members of its underperformance by 1 October 2021.”

So the underperformance measurement is operating now, it does not begin on 1 July 2021 as some commentators are saying.

Back to ASIC's comments on disclosure:

"When disclosure is used to address problems it is ill-suited to solve, it can place an unrealistic and onerous burden on consumers – for example, expecting them to overcome complexity and sophisticated sales strategies.

Like other forms of regulation, mandated disclosure requirements are often ‘one size fits all’ interventions – yet people and contexts differ and shift. It is hard to predict the individual and context-specific differences in how we will behave, make decisions, and engage with and process information."

Here are the Government claims for this initiative:

  • A typical young Australian entering the workforce in their 20s could be around $87,000 better off at retirement.
  • A typical Australian already in the workforce at age 50 could be around $60,000 better off at retirement.
  • A typical Australian spending their working life in the worst performing MySuper product would be up to $98,000 worse off at retirement.

The Government’s announcement includes:

“Once implemented, these measures will benefit Australians by $17.9 billion over the next 10 years. Our $3 trillion superannuation system is responsible for managing the retirement savings of 16 million Australians. The current system is letting too many Australians down. Australians are paying $30 billion per year in superannuation fees ...

Aspects of the Government package, such as reducing fund duplication and creating efficiency, are laudable, but the performance comparison part of the $17.9 billion, worth an estimated $10.7 billion, is a political pitch on an unrealistic dream.

 

Graham Hand is Managing Editor of Firstlinks.

 

15 Comments
Steve
October 11, 2020

There are 900 staff employed directly by the Dept of Treasury, costing $140 million a year. Perhaps if 450 of them were offered redundancy, that would save the govt $700 million over 10 years as well. Particularly if this is the best they can come up with. I suppose the alternative is Treasury could slap a maximum 0.25% investment manager fee on default fund management. A bit like the $300 max. fee for an Early Access Super Statement of Advice. lol

Wildcat
October 10, 2020

"Past performance is no indication of future performance". Is this not in every PDS?

Dane
October 10, 2020

It is beyond me how anyone could call 'property and infrastructure' defensive assets with a straight face. Look at the volatility of REIT's, especially during bear markets. They often fall more than equities. Direct property is the exact same asset except it's unlisted and not marked-to-market on a daily basis. I understand the appeal of not having a valuation shoved in your face every day and being unable to sell on a whim. This can be conducive to good investing (i.e. not selling in a panic). But this does not make them defensive assets. Put it to the test and try and sell a commercial property or infrastructure asset during a bear market or recession. Hostplus calling PE is a defensive asset is quite amazing. Private equity, by its very nature is leveraged small cap investing!!! Studies show it's volatility is on par with public markets.

It shouldn't be that vexing. Defensive assets are cash, developed market sovereign bonds and high-grade corporate bonds. As in things that will genuinly hold their value or even rally under market stress. Anything else is just gaming the system to juice returns and make portfolios look less risky than they are via oqaque proprietary valuation models.

Sam SICILIA
October 11, 2020

Dane
Please verify your statements before you throw them about in responses as though they are fact.

At the outset, let me declare that I am CIO of Hostplus. And please note that I am using “growth” and “defensive” labels ONLY to respond to your statement. These labels are seriously flawed and, if it were not for their entrenched use, should be confined to the dustbin of history.

But if we must use “growth” and “defensive” nomenclature:
(1) Hostplus had always classified PE as 100% growth - this fact is easily verifiable from APRA disclosure. Your statement is simply wrong.
(2) Listed property (REITs) & listed infrastructure (frankly anything listed on an equities exchange) is affected by the volatility of equity markets, which are increasingly driven by sentiment rather than fundamentals. I agree that listed assets are 100% growth. I am NOT aware of anyone calling listed property or listed infrastructure “defensive”.
(3) *Unlisted* property & *Unlisted* infrastructure are NOT Marked-to-Market. That’s not an issue - that’s the key advantage. These assets are valued according to agreed international accounting standards by accredited independent expert valuers. And valuations are typically audited and adopted by all investors with an ownership stake in the asset or portfolio. The issue that I have with your statement is that you inherently imply that listed marked-to-market prices/values are somehow better/accurate. This is not only nonsense, it is laughable especially when you stop to think that 99.99% of the world’s assets are unlisted (and therefore the world has long accepted unlisted asset valuation methods!)
(4) Finally, you say that “Defensive assets are cash, developed market sovereign bonds and high-grade corporate bonds”. Good luck with having your restrictive view of what comprises “defensive” assets adopted. It is now clear that the likelihood of that outcome is zero. Rather than criticising the ongoing use of flawed definitions of “growth”and “defensive” assets, perhaps a better use of your time would be to devote your effort at being constructive by proposing a better measure of risk that accounts for asset class diversification, which the “growth” and “defensive” classification system fails to do.

Phil
October 12, 2020

Hi Sam, is it easy for an investor in say Hostplus's funds to understand or read the valuation methods and timing so they can have transparency on the process? For example are the unlisted assets valued 6 monthly? Are the Valuations done by externals and are the firms rotated so there can be no entrenched view or tick and flick etc? I have some working knowledge of the difficulty in isolating valuations into an end Unit price, it's not a simple process and carries significant conflict risk ( bonuses/performance numbers) etc - so transparency to investors should be high.

Paul
October 18, 2020

Interesting host plus time line: Late match 2020, HP writes down property assets 9.6% due to internal director valuation. 29 jun 2020. HP revalues property up 6.8% higher due to external auditor valuation. Outcome I) HP achieves flat annual property performance through global pandemic. Outcome 2) HP balanced fund adds 2.1% return due to 29th June revaluation. Source: aus financial review July 5 2020

Greg
October 08, 2020

It says an annual performance test. It does not say that this only takes into account one year of returns. Investors need protection from funds that chronically underperform year after year which is what this is aimed at. Investors also need protection against constant fee gouging which the industry seems hell bent on frustrating.

DK
October 08, 2020

Great article. There are so many things wrong with this proposal. For starters, 1 year is nowhere near enough time to determine whether a Manager is competent or not.

And how can you provide a simple fee comparison when the complexities and variances over products are far and wide that even I get confused from time to time after working in the industry for 20 years!

The industry also needs to resolve issue of determining asset allocation and what is considered growth versus defensive, otherwise this will only serve up a comparison of apples with oranges.

Graham Hand
October 08, 2020

Senator Jane Hume has confirmed that it will not be based on one-year performance although it will be an annual test. More likely 5-8 years.

Andrew
October 08, 2020

This is an awful development. They are adding a 12 month performance hurdle to what should be a 30-40 year investment. Madness. One of the biggest issues impacting returns across the entire superannuation industry is the focus on short term results rather than long term, and this will make things far worse.

Dave Findlay
October 08, 2020

Wholeheartedly agree. It also means that, due to the short-term nature of the rule, super funds will all head towards passive index-buying as they cannot risk underperforming APRA's benchmark in the short term to position themselves for future growth. If you're early on an investment call, even a great one, you might as well be wrong if it means having to publish the "sorry, we sucked this year" letter to your members and watching a chunk of them head for the exits, without being able to accept new members to replace those flows.

It also means more structural distortions in the market, as price discovery gets a lot harder when the biggest flows into the market are all non-discretionary (which is the essence of passive investing). Tighter correlations, bigger swings when the same non-discretionary flows run out of the market instead, wider gaps between between share prices and fundamental valuations. It also means bigger impacts from changes in interest rates, as the same benchmark-hugging funds will own the same portfolios of bonds, which all change at once when the RBA moves or lowers rates. They all then have to buy or sell more of those bonds, and do about 1.5x in the opposite direction in sharemarkets (if they are a 60/40 fund), to maintain their allocation relative to the benchmark (which they cannot risk underperforming).

Graham Hand
October 08, 2020

To make it clear that it is not a 12-month performance number, here is the text from the longer Treasury statement:
Each year APRA will construct an individual benchmark for every MySuper product based on an individual product’s portfolio asset allocation, taking into account fees, tax and other relevant assumptions. Each product will then be compared annually against their benchmark. Products that underperform their net investment return benchmark by 0.5 percentage points per year over an eight-year period will be classified as underperforming. For MySuper products that were in place from 1 July 2014, their first performance test will be based on seven years of
performance data. On an ongoing basis the test will apply over an eight year period.

michael
October 08, 2020

It'll be interesting how Retail Superannuation Funds stack up. I recall living through the year where Industry Funds were repeatedly under attack from this government despite having significantly higher returns than their Retail counterparts. That was a right wing government, this one, after unions again for having members on the boards of these funds to ensure money was not squirrelled into the bank accounts of wealthy employees rather than the accounts of members. Nothing to do with how they were doing. So now we're at a place where the performance of the industry is under the microscope again. Despite a whole pile of BS on Tuesday night this government did nothing more than hand out $8 billion of public money to the fossil fuel industry. We need a real budget. One where the always under attack bottom end of society has money to spend rather than welfare and tax cuts for those who have no need of it. That's how you reignite a dying economy, not by handing out money to wealthy citizens to buy up distressed assets when they arrive. Shortly!

Mart
October 08, 2020

I'd bet that the recent Vanguard announcement of directly offering Superannuation funds will have a far better chance of benefiting the average Aussie in terms of fee savings if Vanguard stick with their current fee structure (and Jack Bogle's founding mantra) than the YourSuper tool impact. But, as Graham notes, the devil is still in the detail - as shown by the mining industry insurance comment (via MineSuper) in the article for one example. If Vanguard can address such issues it would be hard to bet against them providing members with the 'winning' fund over time (performance that beats most others combined with lowest fees)

Jack
October 08, 2020

Indeed, you can be sure that when I finally give up on a fund after years of underperformance, that will be the signal to deliver.

 

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