Finger on panic button?

PORTFOLIO POINT: Super investment risk is ultimately in your control. Do you have a finger on the panic button?

Using extreme examples to try to prove a point rarely does anyone any favours.

And when it comes to super, one that former Treasury Secretary Dr Ken Henry used recently is a good case of an extreme example.

Dr Henry, the author of the Henry Tax Report for the government in 2010 and now a government adviser and director of National Australia Bank, last week stated that a 59-year-old in 2007 considering retirement would have lost nearly 50% of their super by the time they retired a year later if they had have been invested in a “high growth” super fund.

That’s undeniably true and anyone with a vague interest in super knows that.

But everyone in “all growth” funds (super or non-super) would have lost about half of their money by the time the market bottomed in March 2009, as growth assets (shares and property) slumped globally.

The 59-year-old wouldn’t be alone. Taking Ken Henry’s example as an anchor, here are some other examples of people who would also have done equally poorly over the same period.

The same would also apply to:

  • A 29-year-old who had invested their $20,000 in the stock market would have seen their money shrink to $10,000.
  • A 44-year-old who invested $100,000 into a high-growth fund at the same time, would have seen their money halve also.
  • The Dr Henry example, a 59-year-old, who had $300,000 in super that is now worth $150,000.
  • An 74-year-old who had their last $150,000 in a super pension would only have had $75,000 in super a year later.

Are these four options of equal weight in terms of disasters? Absolutely not.

Of these four examples, which ones are a concern?

It matters little that the 29-year-old has lost $10,000. He’s lost roughly a couple of months’ salary. The 44-year-old has lost $50,000, but she’s in the peak earning period of her life and has time to make it back. (The great disaster would be if the experience scared her off investing for life.)

Obviously, Dr Henry’s 59-year-old has been seriously impacted. But the same question applies. What were they doing with all of their money in high growth assets if they were considering retiring in a year? This situation should also be rare and would only happen by (potentially uninformed) choice on behalf of the member, or potentially bad advice.

The 74-year-old … you’d have to question how many people would be in this position. It should be extremely rare.

Risk and proximity to retirement is an important concept to grasp. It’s one that SMSF trustees are probably more aware of than the broader community average, but is still requires constant supervision.

The closer you are to retirement and the more you’ve built up in super, the less you should be risking on a plunge in markets. Shares and property, which are considered growth assets, are the two most volatile investment markets.

Cash and fixed interest are “defensive” assets. Fixed interest has a capital component and can move around with the strength of the economy/government/company, but tends to move around a lot less than shares and property.

The older you get, so investment theory goes, the less you should have invested in shares and property. One theory states that whatever your age, that’s the percentage you should have in cash and fixed interest.

A 59-year-old, therefore, should have around 59% of their super invested in defensive assets, say some textbooks. It’s an imprecise theory. But it points out that the older you get, the more defensive of what you’ve built you should become.

The broader point of Dr Henry’s speech was that Australian super funds are too heavily invested in property and shares, including international.

Australia is seriously underweight in the area of fixed interest, particularly in Australian bank paper and corporate bonds, he said.

This was partly responsible for Australia’s banks borrowing offshore to fund lending commitments here. And that, in itself, created major problems for our banking system, he said.

“When the global financial crisis hit, our national balance sheet, featuring substantial super fund investments in foreign equities and substantial bank borrowings from offshore, contained something with the character of a distressed margin-lending scheme,” Dr Henry said.

Australian super fund members, including most SMSFs, lost a lot of money in the crash that started in November 2007. For a start, 80% of Australians are invested in balanced funds in their super. And even with 40% or so of their money sitting in cash and fixed interest, balanced funds went backwards.

Liquidity was a problem, most notably in the direct mortgage and property fund sector.

Naturally, fund managers have since reported that Australians have been dialling back on the risk. They’ve taken matters into their own hands and have actively opted away from previous choices – or choices that were made for them by automatic selection of the default balanced option – and decided to take a lower-risk route.

(An alternate argument is that they’ve acted after the horse has bolted and those members will miss any medium to long-term upside.)

Hopefully, there aren’t too many 59-year-olds sitting out there with 80-100% of their money sitting in property and shares. But if they are, it should be because they understand the risks they are running and have a longer-term time frame.

But Dr Henry’s point is an argument that needs to be further discussed in the investment community and by all investors at large.

On average, the funds labelled as “balanced” by APRA-regulated funds, have somewhere between 55 and 70% of their money in growth assets.

In Europe, pension funds tend to have 50% or more of their assets in cash and fixed interest.

As SMSF trustees, you don’t have a fund manager making those decisions for you. But you do control the panic button. Unlike major super funds, you can shift immediately into and out of asset classes.

Be aware of your SMSF’s “investment strategy” when deciding to make asset allocation changes.

While investment control is partly why you chose to be a SMSF trustee, getting an understanding of unfamiliar asset classes can be difficult.

Fixed interest is the least understood of the four major asset classes. People understand cash, property and shares. But less than 10% have any real concept of what fixed interest is. It’s far less volatile than property and shares and should, over most periods, well outperform cash.

Dr Henry’s words, although a lesson aimed at Australia’s fund managers, is something we all need to bear in mind.


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.