Home / News / Super funds long-term investors no more as industry goes ‘limp mode’

Super funds long-term investors no more as industry goes ‘limp mode’


A big chunk of super funds are now in “limp mode” as their buffer against the performance test evaporates. And sustainable investing is getting harder when even tobacco exclusions eat up the tracking error budget.

Everybody knows that people will say what they really think as long as they don’t have to put their name to it. That’s what makes recent research conducted by David Bell, executive director of the Conexus Institute, so interesting. Unnamed CIOs of ten super funds have told Bell exactly how Your Future, Your Super (YFYS) is impacting their fund, and the unintended consequences of the reforms extend to every facet of the investment function.

The headline summary is that that a significant chunk of the industry is now in “limp mode” – that is, they have only a small performance buffer (the accrued performance gap against the test over the past eight years) and need to significantly reduce tracking error in order to survive. In a catch 22, rebuilding that buffer will require taking on more tracking error.

“That scenario of small buffer: it’s like turning up to a gladiator event with a butter knife!,” said one of the CIOs interviewed.

That is, in effect, creating two kinds of funds: those that integrate YFYS into their investment framework, “impacting activities from determining the strategic asset allocation through to implementation activities by asset class teams”; and those funds that take the view that existing investment process has produced their buffer, and feel there is a chance to further distance themselves from their peers by continuing to take risk. The second approach was less viable for funds with a small buffer, while others combined elements of both.

YFYS has also had the effect of reducing the investment horizon in order to avoid falling into limp mode, with one CIO saying: “Are we genuine long-term investors? No more.” Many of the CIOs also reported reduced portfolio management levers, with some investment opportunities now much more difficult to apply in size.

“These included opportunities in fixed income (low and high duration bonds, credit, inflation-linked bonds), public equities (low volatility strategies, small caps, and emerging market equities), alternatives (insurance-linked strategies, hedge funds, alternative risk premia), private assets (j-curve risk in new private equity exposure, characteristics of unlisted property and infrastructure).”

While fund CIOs were so far resisting “gaming” the performance test (For example, by taking positions in strategies which are benchmarked “generously”, like high yield and private debt, which are likely to outperform the composite bond index) they also expect that it’s only a matter of time before limp mode funds start trying to do exactly that: “perversities and gamification will undoubtedly become issues,” one CIO said.

But the biggest challenge is for sustainable and responsible investment (SRI) options. It’s bad when even the exclusion that nearly every fund runs for tobacco just “just chews up a chunk of (their) limited tracking error budget.” Some funds feel that running SRI options in their current format is unsustainable, and feel “trapped between meeting the stated demands of our members or risk being on the front page of the mainstream newspapers.”

“There was general agreement that the most focus would be on engagement, as this activity generated no performance test tracking error… Investments in dedicated impact investments will be limited. Here, some CIOs acknowledged that their firms would seek to maximise the full benefit of such investments through brand association,” the report says.

Still, the support for the performance test in default options was unanimous, though some funds believed that relying on members to essentially act as the “enforcement agent” by moving their money was flawed given low levels of engagement. But there was no clear-cut solution to the problems of YFYS.

“Many of the CIOs agreed that a framework combining multiple metrics and a qualitative assessment would be a significant improvement, if implemented well,” Bell wrote. “Here, CIOs broadly agreed that hindsight reflects well on the pre-YFYS APRA operating model (multiple metrics via the Heatmap and a qualitative assessment).”

“The question marks were whether the YFYS performance test had permanently raised APRA’s stance to its currently perceived strong level, and whether APRA’s frontline team would be able to assess a large throughput of complex qualitative assessments.”

Print Article

‘Think differently to the next guy’: Paradice on why fundies falter

“If you have style drift and you move into the latest hot thing, you’re gonna get whipsawed… That’s usually the death knell of a fund manager, that style drift.”

Lachlan Maddock | 12th Aug 2022 | More
Time for super to get its purpose as industry counts early release cost

The spectre of early release still looms large over the industry, and super’s true believers want its purpose legislated to prevent Australia’s retirement savings from becoming a crisis piggy bank.

Lachlan Maddock | 12th Aug 2022 | More
US inflation news buoys market

Australian shares followed the US market higher on Thursday after the world’s largest economy reported easing inflationary pressures, helping to lower interest rate expectations. The benchmark S&P/ASX 200 gained 78.3 points, or 1.1 per cent, to close at 7,071 points, while the broader S&P/ASX All Ordinaries rose 86.7 points, or 1.2 per cent, to 7325.4 points. Most…

Drew Meredith | 12th Aug 2022 | More
The era of dip-buying is at an end
Lachlan Maddock | 13th Jul 2022 | More
Top 10 balanced funds in tough year
Greg Bright | 15th Jul 2022 | More
Funds rewarded by active management in a tough year
Lachlan Maddock | 20th Jul 2022 | More