Mind the gap

Here's the good news. Your super is clawing its way back after the ravages incurred during the global financial crisis. But don't hold your breath. If it wasn't for contributions coming into your fund, chances are your retirement savings have gone absolutely nowhere during the past five years.

And if your fund has been performing below par, you're still likely to be sitting on substantial losses.

The 2011-12 financial year was a real roller-coaster for super funds. Up one month, down the next. In early June, there was a real chance that we were looking at another year of losses, but the average fund managed to scrape through with a return of 0.4 per cent.

The chairman of SuperRatings, Jeff Bresnahan, says while that might seem like a poor return, funds actually fared well considering Australian shares were down by 6.4 per cent over the year and international shares fell by 3.3 per cent.

Balanced funds, as measured by SuperRatings, hold between 60 per cent and 76 per cent of their assets in so-called "growth" investments, such as shares and property, but sharemarket losses were offset by an 8.3 per cent return from fixed-interest investments, such as bonds over the year, and positive returns from property, cash and alternative assets, such as infrastructure and private equity.

Bresnahan says non-profit funds, in particular, have been gradually reducing their reliance on shares for their returns and have benefited from holding unlisted investments.

"There has been a drop of about 4 per cent in their exposure to shares over the past decade and it has gone into unlisted assets," he says.

"But that raises the issue of whether all balanced funds are comparable and, unfortunately for consumers, they're not. One balanced fund will behave quite differently to another and that's unfair on consumers because they get put into these funds but there can be a 10 percentage point difference in performance

"That's what happened this year and, over the longer term, a performance difference like that is a hell of a lot of money."

While the top balanced fund, LGsuper, returned 5.1 per cent for the year, SuperRatings says the worst fund in the survey lost 3.5 per cent - a difference of close to 9 percentage points. First State Super's Health Super Division medium-term growth fund returned 3.3 per cent, but the rest of the top 20 returned between 0.7 per cent and 2.8 per cent (see table on page 6).

BEST AND WORST

The difference between the best and worst was even more spectacular for growth funds (holding between 77 per cent and 90 per cent in growth assets), with the top performer (ESSSuper) returning 4.9 per cent, versus a 5.7 per cent loss for the lowest-ranked fund.

And even in the more conservative capital-stable funds (which are 20 per cent to 40 per cent invested in growth assets), the difference between the best and worst was more than 7 per cent.

The top-ranked Commonwealth Bank Group Super option returned a solid 6.4 per cent, while the worst in the category made just 0.7 per cent.

But it's the longer-term returns that tell the real story of how the global financial crisis is still affecting retirement savings.

Bresnahan says that while this year's return isn't anything to write home about, it has at least consolidated the recovery of the past two years.

"Funds have earned about 20 per cent over the past three years, which is a pretty reasonable result," he says. Some of the better funds (the balanced options listed for First State Super's Health Super Division, Recruitment Super, Commonwealth Bank Group Super and LGsuper) have all returned more than 8 per cent annualised during the past three years, which would push their recovery in this period to more than 25 per cent.

However, during the past five years, the picture is much uglier. SuperRatings says the average balanced fund has lost 0.2 per cent a year during this period and only three balanced funds (LGsuper, Commonwealth Bank Group Super and First State Super's Health Super Division) managed to return more than 2 per cent a year.

Indeed, if it wasn't for contributions coming into our funds, most fund members would be wondering why they had bothered. "A lot of people wouldn't have noticed the [poor] five-year returns because with contributions, they still see their account balance growing each year," Bresnahan says.

"But you've also got to remember that we've been through what was arguably the biggest financial and economic crisis of our lifetimes. A year or two back, the three-year returns looked horrible, and the seven-year numbers will eventually look bad, too. It's a timing issue."

To put it in perspective, Australian shares have lost 4.2 per cent a year during the past five years. International shares have lost 2.15 per cent when hedged against currency movements or, thanks to the rising Australian dollar, 6.65 per cent a year unhedged.

Diversification has shielded fund members from the full extent of these losses, however, once again, some funds have done much better than others.

While the best balanced fund returned 2.6 per cent a year over the past five years, the worst lost 4.5 per cent a year - outstripping the losses of the local sharemarket.

Over the 20 years since the introduction of compulsory super, Bresnahan says, the average balanced fund has still managed to beat its targeted return of 3 per cent to 3.5 per cent above the inflation rate.

The average fund has returned a solid 6.6 per cent during this period, while inflation has been about 2.8 per cent.

CLASSIC DELEVERAGING

The problem is that many fund members had become accustomed to the double-digit returns of the boom period. As the graph on the previous page shows, annual returns during the past 20 years have been as high as 18 per cent, and returns in the four years before the GFC were 13 per cent to 15 per cent. Losses were rare and, up to 2008, had been limited to less than 4 per cent.

The director of client investment strategies at Russell Investments, Scott Fletcher, says returns in the mid- to high teens between 2003 and 2007 set unrealistic expectations.

"When you have returns which are completely out of line on the upside, you have to expect a period that will disappoint for a while," he says. "The depth and scope of this downturn is what has taken everyone by surprise, but it is a classic deleveraging market.

"Normally you'd expect the peaks and troughs to be over and done with in 12 to 18 months, but deleveraging can be more extended."

Bresnahan says 6 per cent returns are much closer to what should be expected over the longer term, as balanced funds returns in the high single digits are actually pretty good.

But this doesn't mean fund members have to accept poor returns.

The range of returns between funds shows that some funds manage market cycles better than others.

While it would be dangerous to ditch your fund after one year of poor returns, Bresnahan says if it has been underperforming similar funds during a five- to seven-year period you need to ask questions.

It may have chosen the wrong investments (funds with high weightings to international shares have been dragged down during this period) and fees can also play a role.

While recent research for the Financial Services Council by Rice Warner Actuaries shows average fund fees fell from 1.27 per cent to 1.2 per cent between 2010 and 2011 (and from 1.37 per cent in 2002), costs can still vary dramatically.

While the average fee for corporate, public sector and large corporate trusts was less than 1 per cent, and the average fee for industry funds was 1.13 per cent, the average for personal super funds was 1.87 per cent and members of small corporate master trusts were paying an average 2.21 per cent.

As with returns, fees also ranged widely within sectors. The cheapest industry funds, for example, charged less than 1 per cent, while the most expensive cost more than 3 per cent.

In the personal super segment, fees ranged from a little more than 1 per cent to about 3.7 per cent.

"A lot of retail funds and some not-for-profit funds need to review their fees and bring them down, especially in some of the cash options," Bresnahan says. "They're returning 2 [per cent] to 2.5 per cent a year, whereas most other cash investments are doing 4 per cent.

"That's because they're taking 150 to 200 basis points out of the return in fees before any money goes to the member. Some of the investment platforms charge the same fees whether the money is in a low-cost investment like cash or something like international equities."

GENUINE DIVERSIFICATION

Bresnahan says fund members also need to take ownership of their returns, rather than setting unrealistic expectations for their fund. He says they need to understand where their money is invested and what sorts of returns they can expect in different market conditions.

While most members remain in their fund's default option, he says there are "scores" of investment options to choose from if they are not happy with the risk they're taking or the returns they are getting.

Fletcher says funds have also been working to manage risk more effectively. Before the GFC, he says, most assumed a mix of shares, bonds, cash and property would provide enough diversification to reduce risk.

But there is now a recognition that they need broader diversification to handle GFC-style risks where most of these traditional assets can all be hit at once.

"To maintain the same risk profile for investors, super funds are a bit like ducks swimming on water," he says.

"Above the water, everything looks the same, but a lot more work is going on under the water to reduce the level of risk."

Fletcher says funds are realising that it's not enough to understand the particular risks of each investment class they also need to understand how different investments interact, how those interactions have changed and how to achieve genuine diversification within each asset class.

"If you mention alternative investments, for example, people often think of airports and tollways," he says. "But different infrastructure investments have different levels of liquidity and other features that need to be managed."

Bresnahan says funds are also reviewing their objectives, which, until the GFC, had not been tested thanks to 15 years of outperformance.

"They're asking what sort of time period their objectives should be measured against," he says.

"It obviously needs to be over the longer term. But if you say they should be measured over 20 years, it becomes a marketing ploy. They can underperform for several years and still say they've got plenty of time left before they're held to account."