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Large super funds struggle to match index in Aussie equities

"Extraordinary claims require extraordinary evidence," according to the Sagan Standard, the observation made popular by astronomer Carl Sagan. Any large superannuation fund claiming it outperforms the market should provide the proof, but for Australian equities, the public evidence does not support the assertion.

Diving into the data

A sample of Australia’s largest superannuation funds shows the average performance for Australian equities over five years after fees for a pension account was 7.29% versus a benchmark return of 7.56%. For 10 years, the average return was 9.11% compared to a benchmark of 9.31%. At best, this result suggests that superannuation funds with their large investment teams performed no better or worse than an individual investing in a passive equity fund.

APRA was not short of critics when it introduced its Heat Map to judge fund performance. Superannuation funds, asset consultants and rating agencies all joined in. Assessing fund performance is indeed tricky, but the mediocre performance by superannuation funds for Australian equities supports APRA taking an analytical view.

We, at BigFuture, took a straightforward and conventional approach to compare superannuation funds’ performance for Australian equities. First, we took the returns of a superannuation fund’s pension tax-exempt fund. This avoids the debate about a fund’s after-tax returns with the split between current versus capital gains. Second, we compared these returns to the S&P/ASX300 Total Return Index Adjusted for Franking Credits (SPAX3F0). Some superannuation funds prefer to have the S&P/ASX300 Accumulative Index, but there is a free kick here as those franking credits have value.

First, the good news. Superannuation funds did beat our benchmark for the last financial year to 30 June 2020. The benchmark return was -6.21% compared with the average superannuation return of -5.71%. 50 basis points (bps) or 0.5% outperformance is very useful in a down year.

Note: CBUS and CSS do not have Australian Shares investment options.

However, when we look over the longer-term, the picture is less rosy. The returns for five years show an average return of 7.29% against a benchmark return of 7.56%. HostPlus, who The Australian Financial Review seems to take pleasure tormenting due to its investments in unlisted assets, performed well beating the benchmark by 25 bps (0.25%). The standout was UniSuper, beating the benchmark by 104 bps or 1.04%. The average return declines from 7.29% to 7.10% if we exclude UniSuper.

Critics of APRA’s Heat Map say five years is too short a period to compare funds. Some suggest 30 years but let’s get serious. No superannuation fund would keep an Australian equity manager who underperformed for 30 years. Members should not do the same.

Over 10 years, these large superannuation funds are struggling. The average return for superannuation funds is 9.11% after fees compared to our benchmark return of 9.31%.

Is close to the benchmark reasonable?

To be fair, these returns look like noise around the benchmark, but expert investment teams are expensive and their processes are complicated. It would be interesting to know how many superannuation trustees are challenging the assumption of deploying these resources for no additional return. Trustees may be impressed by the economic and political savvy of active managers but where is the extra return beyond good marketing? QSuper Australian equities fund wins our gold star for going passive.

An article like this wins no friends. You don’t get employed or become rich by criticising superannuation funds. Investment teams, asset consultants, active managers and even rating agencies all earn good incomes. No doubt, there will be critics who say the logic of this analysis is flawed. But if this is wrong and we tried our best to analyse the data in detail, and if no one else can provide reliable numbers to the contrary, then we will leave it to APRA to sort it out. Members should have easy-to-access, comparable data.

One way to look at it is that superannuation funds perform no better or no worse than the index. Perhaps one reason is superannuation funds now own so much of the Australian share market. It’s hard for one professional team to beat another professional team. In 2019, Rainmaker estimated that superannuation funds owned 40% of the total share market and this was expected to grow to over 50% by 2030, a trend supported by Deloitte.

A second reason for seeing an outperformance only last year could have been that institutional investors were favoured over retail investors with new equity raisings during COVID. This is speculative but worth analysis.

Member difficulty understanding the benchmark

Consider the table below to see the challenges for a member to work out if their superannuation fund is competitive and performing well for the most straightforward asset class with the simplest of benchmarks.

Amid criticism, APRA is pushing ahead with its Heat Map, and it will be notable whether the soon-to-be-released Retirement Income Review 'fact base' reaches a firm conclusion on large fund performance.

 

Donald Hellyer is CEO of BigFuture. BigFuture is a technology consulting and development company specialising in building applications for fund managers, superannuation funds, brokers and banks. This article is general information based on public data and does not consider the circumstances of any investor.

 

12 Comments
Nigel Renton
July 30, 2020

Errol makes a valid point.

If the Australian Equity component of a "Balanced Fund" (by which I think he means a "relatively" constant risk allocation to Growth and Defensive assets - say 70-30 for example) then the portfolio management team ought to be incentivised to manage to the risk/reward characteristics of the entire portfolio and not to beat the SPAX3F0 within the Aust Equities allocation. They might prefer a defensive/quality balance sheet bias within equities as a counterweight to a short duration fixed income view or whatever...

But, if portfolio management teams are managing to the whole of portfolio risk/reward characteristics we might expect more dispersion below and ABOVE the index within equities which is not evident.

Also, to be fair, the SPAX3F0 is not investable (at least not a physical version) so an appropriate comparison is against (the even more overpriced!) passive instruments - An investable benchmark proxy might be IOZ iShares ASX200 which is guaranteed to underperform the ASX200 by at least 0.09%.

Great article - Thanks, Donald.

David Hartley
July 30, 2020

The analysis makes sense but it's also easy to see a deeper systemic problem emerging. As super funds become larger and larger, passive management is always going to make more sense. However, having a large section of the market investing passively will lead to a failure of the price discovery function of the market, as cash flow will be directed mostly to the purchase of the shares of those companies that are already highly represented in the index, without consideration of value for money.

Those seeking to take advantage of the smaller, better value companies with higher growth prospects may still get beaten by the flow of money into larger companies due to passive management. This can lead to them also abandoning their active approach, leading to even more price distortions. It may be only when the net superannuation cash flow for Australian shares turns negative that the situation is reversed.

Donald Hellyer
July 30, 2020

That is the conundrum, David. How much active management creates healthy price disclosure? Active management must expect a positive outcome otherwise our super funds are paying a fee to provide a public service

Andrew Boal
August 02, 2020

Yes, I agree David. There still needs to be a material segment of the market leading a "price discovery function" as you call it. However, the ASX may be too small for many of the new mega-funds to add value in this part of their asset portfolio and they will continue to look for better opportunities in alternatives and overseas markets. The survival of a number of smaller niche funds (with $20-50 billion in FUM) provides an opportunity still.

Dane
July 30, 2020

It's unfathomable that investors still choose to pay active managers to invest, at least with long-only strategies in developed highly-traded markets. There is considerable empirical evidence built up over decades that it's a loser's game in the words of Charlie Ellis. Studies have shown that in highly efficient markets, educated guesses are no more accurate than blind guesses.

In aggregate, on a pre-expense basis, active investors earn the same market rate of return as do passive investors. Deduct the fees that these large funds charge, (which are higher than they should be, but for another discussion) and the result is underperformance, which we see here.

Successful active management strategies demand un-institutional behavior from institutions, creating a paradox that big industry funds with bloated payrolls are unlikely to unravel. Active managers are often unable to exploit genuine market opportunities due to focus on shorter-term performance and protecting their jobs. The myopic focus of industry funds on the latest 1yr returns certainly does not dispel this notion.

Another fundamental issue for the investor is that there is no evidence that you can identify ahead of time the few active funds that will outperform their appropriate benchmarks. And the top peformers tend to change from year-to-year which can have you jumping at shadows. Even if you are fortunate enough to pick a winner, the challenge then becomes sticking with the manager through the inevitable period of underperformance, which can persist for years. Most investors (even so-called sophisticated institutional investors) bail at the worst time. 3 yrs seems to be the sweet spot where managers are fired.

The fact that funds, consultants, ratings agencies etc. protest against this type of research should be of no surprise. It reminds me of that saying "It is difficult to get a man to understand something when his salary depends upon his not understanding".

Education and a disspassionate look at the facts would do many investors well here..

Donald Hellyer
July 30, 2020

Dane, that is such a good point. There are two barriers. First, you have to believe active management will produce alpha. Second, you have to believe you know how to pick a good active manager (and when to fire them). If large superannuation funds with their big investment teams and consultants cant do this, it must be beyond a retail investor.

C
August 04, 2020

On the contrary, l believe it is actually easier for an interested retail investor to pick a good manager, they can just look at the top- performing managed funds. It is much easier for the retail investor to move their money around and they can trade/ invest in much smaller companies/ opportunities. On the other hand, they don't have the same access to IPO’s, private equity etc

Errol
July 30, 2020

Some good points. As the article is focused on income accounts, it would be useful to see some analysis on “Balanced fund” returns where the majority of super fund members have capital allocated.

Donald Hellyer
July 30, 2020

Errol, this is what APRA is attempting with its Heat Map. One point of my article is that there are poor and inconsistent benchmarks for even the simplest of asset classes, Australian equities. The problem of performance against the benchmark is exponentially harder for a balanced fund. Super funds don't help themselves. They often compare themselves with other super funds (that could be a bunch of heroes or villains). Alternatively, super funds compare their performance to a bananas type benchmark of CPI plus a margin.

Herd McFollow
July 31, 2020

Missing the point Errol, this asset class comparison should be the easiest to compare. An industry "balanced fund" can have up to 50% unlisted indirect "alternative (direct property, ports, rail)" investments. Thus comparison is much harder on a "Balanced Fund". But hey hostplus have a great investment team with fantastic transparency so benchmarking their funds should be easy......if you get hostplus to do the benchmark. Oh by the way, industry funds actually carry more risk in a "balanced fund" than other retail funds. Why? Because they lack liquidity and daily or even monthly pricing. If you are in a pension industry fun, good luck with longevity, you dont withdraw cash, you withdraw units. Can't get units back when they are withdrawn! But hey, its cheap and lots of friends at the bbq invest with them, so you'll be fine...

Bob
July 30, 2020

So the two consistent standouts (AustralianSuper and UniSuper) are the two superannuation funds who have comparatively internalised more of the management of the assets than the peers. Is this article more about the poor performance of the funds management industry that the other outsourced funds invest in?

Jeff Oughton
July 30, 2020

Yeap...excessive fees for underperformance....and as your table summarises - undisclosed to members by their trustees/asset managers and a regulator playing catchup

 

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