Asset allocation: The DIY option

PORTFOLIO POINT: Super returns? What returns? Here’s how to turn the tables and bounce back. Plus reader feedback to why SMSF contributions have taken a dive.

From a super returns perspective, we’ve known things have been pretty miserable for a long time. But they’re becoming so on a grander and grander scale.

Typical balanced funds have now produced an average annual return of just 0.92% for the last five years, according to a survey by industry-fund aligned Superratings.

That figure is the worst five-year return since compulsory super descended in 1992. As Superratings chief executive Jeff Bresnahan stated, if things don’t pick up soon, the seven and 10-year returns are going to start looking pretty sick too. They’re holding up, for now, because they still contain parts of the stellar share market results between 2003 and 2007.

A return of less than 1% is bad enough. However, if you then take off the average inflation rate of about 3%, then you have real returns of around -2%. That’s disastrous.

SMSF trustees are, by their nature, generally active investors. You tend not to sit on your hands. But if you’ve had your DIY fund invested in predominantly Australian equities, then you’re probably struggling with performance.

You’ve probably felt that a line needs to be drawn in the sand. Here are some ideas to help you break the holding pattern.

SMSF portfolio rebalancing

One problem can be inertia – standing still. If you’re not constantly monitoring your super investments, then big moves in the market can put your asset allocation quickly out of whack. All of a sudden, when the tumble occurs, you’ve got too little invested in growth assets and too much invested in defensives, or vice versa.

Portfolio rebalancing is one potential answer. Rebalancing is about having some consistency about what percentage of your fund you have invested in each asset class.

It’s done automatically in managed-fund super. In the majority, asset allocation is managed on a daily or weekly basis.

Let’s have a look at what can happen to a portfolio that wasn’t rebalanced for the financial years of 2009 and 2010. We’ll work on a 60-40 “balanced” portfolio.

Table 1: No rebalancing

Now we’ll rebalance from June 30, 2010, back to our original asset allocations. This will mean selling down some cash and fixed interest and putting those assets into property and shares.

Table 2: Rebalance at July 1, 2010

The act of rebalancing, in this case, has added $681 to the June 30, 2010 value, a performance improvement of 0.68%.

It’s something that some trustees do automatically. When markets tank, load up on quality stocks. When the market is overheated, sell down and take some profits.

Making contributions NOW!

SMSF trustees often leave their super contributions to June, when they know their profitability for the year and because they have the flexibility to do so.

However, making constant contributions to super can have advantages, particularly if it allows you to be counter-cyclical, ploughing money into super when some asset classes (now, shares) are down.

Gearing assets in super

As a strategy, gearing is a powerful force in a rising market. Many trustees might think that their time for gearing is passed. And for many, they’d be right.

However, gearing inside super – via instalment warrants on shares or property – could provide part of your answer if time is on your side and you can ride out the bumps. Don’t rush out and do it. And don’t do it with your entire portfolio.

But buying geared assets now, when markets are down, could be a powerful strategy to consider if you believe that a market bounce back is inevitable.

… Or take the income and run

Fixed interest. You’d look like a genius if that’s all you’d been invested in for the last five years. A solid return by way of income, with far less volatility than is assumed when you’re investing in shares and property.

The solid (not guaranteed) income provided by fixed interest has flogged inflation in recent years. Even if shares return to double digit returns soon, could the respite from volatility offered by fixed income provide you with a greater ability to sleep at night?

Your responses to falling super contributions

Two weeks ago, I reported that contributions to SMSFs had fallen further down the hole. After a big fall in FY2010, contributions fell even further in FY2011, according to figures from SMSF services provider Multiport.

Contributions are down 33% over two years. And I asked you to email me in regards to why this had occurred.

The answers suggested it was less about government fiddling and more to do with the economy. SMSF trustees are, more so than the general community, in small business. And small business has been doing it tough.

Among the emails that you sent to me were the following:

GO: “Our 2011 contributions were virtually zero and the story is all negative.  We are in retail (32 years now) and sales and profits were down for 2011 to the extent that we simply had no spare money/profit to contribute to super.  We needed to keep any spare cash we had, over and above our costs of living, for future business needs … Business is worse now (November 2011) than last year so there will likely be no contributions this year either.

Paul: “I reduced my contributions by approximately half mainly due to the market conditions that my small business operates in. As times become tighter, I felt it prudent to keep an allocation of reserve cash in the bottom draw, just for that rainy day.”

Others are still making their maximum contributions, but are facing the reality of halved concessional contribution limits.

AL: “For me it is simple. When I could contribute $100,000 per year I did so, when I was only allowed to contribute $50,000 per year, I did so.”

And then there’s the inevitable cynicism of government’s propensity to change the rules.

DL: “I have an unremitting, abiding and unbridled confidence in the capacity of (the current government) to continually drive a wedge between the “haves” and “have nots” by deriding wealth accumulation in negative ways and seek measures to curb its ‘spread’.”

Some contribution averaging, please …

Many were similar stories that highlight a significant problem with the current contributions system. That problem is that if you fail to make contributions one year, or don’t use up your contribution limit, that it’s gone.

Notwithstanding some much needed increases to the concessional contributions limits, there also needs to be reform that includes some sort of rolling three- or five-year limit on putting in CCs. If you can’t put in your $25,000 one year – because of the sorts of business issues faced above – then you should be able to make up for that $25,000 in a future financial year.

*****

The information contained in this column should be treated as general advice only. It has not taken anyone’s specific circumstances into account. If you are considering a strategy such as those mentioned here, you are advised to consult your financial adviser.

Bruce Brammall is director of Castellan Financial Consulting and the author of Debt Man Walking.