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Why State Super thinks defined benefit could (and should) rise again
Unlike most superannuation funds, State Super knows (roughly) when it will cease to exist: the far-flung year of 2084. That’s when the last spouse or child of one of its original members will have passed away. Defined benefit (DB) funds are already few and far between, with a preference for the actuarially less challenging defined contribution (DC) structure, where the members wears all the risk; by 2084, State might be one of the last of its kind.
Or maybe not. It could be that what the world needs is more DB, says John Livanas, chief executive of State Super. He believes they can play an important social role by making the public service more attractive – and wants to create another one.
“The principal behind this is the compact we have with our nurses, teachers and police,” Livanas tells ISN. “The compact is: you are in service of the community. During the time you’re here we recognise tenure, and we think tenure is good because a nurse that has 10 years’ experience is better than three nurses with three years each. You aren’t going to get as high a salary in the private sector, but what we will do is look after you in retirement.”
State Super’s proposal has been put to the government, and even priced; it would be a partial defined benefit fund that would kick off at age 70 and adjust if there were changes to investment returns or longevity. Livanas thinks it would be much more affordable – it wouldn’t offer the “gold plated, triple platinum with diamonds on top” benefits of the past. Members might not always get exactly what they thought they’d get, Livanas says, but they’d get pretty close to it.
For many, that might be enough. State Super has been testing a thesis with its members: a police officer or nurse might enter the public service for essentially altruistic reasons – but why do they stay?
“There were times when they wanted to leave, but what they recognised was that if they stayed the course they would have a lifetime pension after that. They saw their friends getting a much higher salary but accepted what they had because they could do what they wanted to do and at the end they were going to be looked after.”
“Sadly, I think we’ve lost that… (The new fund) can’t be like the old ones, because if it is you’ll blow out the liabilities. But if it’s something along the lines of an adjustable lifetime pension, governments can do that; they don’t have capital requirements or profit motives. You can actually have a competitive advantage. And the government doesn’t care where the nurse works because it’s all part of the same system. The private sector can’t do this because every time you move around you have a liability somewhere else and it blew up the whole system.”
Bringing DB back will be a long, slow march. But for Livanas, the destination will more than justify the journey.
“These changes take forever to happen and then they happen all at once. Somebody has to make a start.”
Not a place for everybody
While it has close to 85,000 members and $40 billion of funds under management, the schemes that State Super administers are all in runoff. That means thinking about investing “in a very different way”. Unlike its DC peers, which always have new money coming in, State can’t afford to play chicken with markets.
“If we think there’s a drawdown, we’d rather get really worried and pull money out and derisk it than wait for that downturn and manage through the cycle,” Livanas says. “Our average in our DC funds – our half-life is about five years. Over a five year period your cycle probably isn’t done but you’ve lost half the money. You can’t invest through the cycle. We move things around a hell of a lot more than other people do; we’ve used things like machine learning to try and help us with what the sensitivities are. But that’s made us do really well in terms of risk-adjusted returns (relative) to our peers.”
But being ready to pack up and run away at the first sign of trouble occasionally means running from nothing.
“That does happen – we don’t get it right all the time. But if you have a mentality that you’re looking for that, you start to get a good sense of what’s happening – whether this is a secular change or whether this is just a blip that you can ignore. We do use machine learning quite a bit to look at signals in the market. That presents a set of ideas to the guys who look at it. We have a lot of delegations in place to say ‘This looks like a down market here but is it really going to fall? Do we wait a bit more, or do we pull the trigger now?’. But most importantly we learn from it.”
“One example is the yen; it started drifting down and we looked at it and thought that there had to be mean reversion. There was a mix of opinions in our team, and where we got to was that we would watch a little longer because we thought it might be problematic and stay down. In the end we made a call and it worked. But it’s a judgement call at that stage – we haven’t always got it right.”
It’s a way of thinking about superannuation investing that will probably become more common as more and more funds tip over into paying out more than is coming in. Retirement is the most complex question facing the system, one that seems to become more and more complex with the time spent on it and the regulation surrounding it. In Livanas’ mind, it doesn’t have to be.
“My personal view – based on the experience and research that we have – is that people are pretty sensible, by and large. There’s this argument that people get a lump sum and then go and spend it. We know that’s a fallacy. We now have another argument that people don’t spend enough and wind up poor in retirement and leave a bequest.
“I’ve studied people in retirement for many, many years, and not everybody is all over it but neither are we capable of understanding what each person’s individual circumstances are. For that you need a financial planner, and even then they don’t get everything right. If you try and get perfection you won’t get anything.”
Of course, State’s members retire with more than most, and usually choose to get it through a lifetime pension. That smooths their transition to retirement by giving them what they’ve come to expect and rely upon: a paycheck.
“They love it; they say it de-stresses them because they’re not worried about outliving their pension… That’s what people want; everything else complicates it. An account-based pension is similar to that, and yes people run the risks of running out of money if they live for a long time. We do have the age pension as well. I really truly don’t know how you can get something people want that is very different to what we just talked about.
“What is it we’re trying to solve for? People take their lump sum and stick it in an account-based pension in a very large number of cases. They draw down based on their requirements.
“Annuities are ridiculously expensive and arguably not in the best interests of members. You’re trying to sell an insurance product, which means you have capital requirements and profit requirements. There might be a place for it, but it’s not a place for everyone. It’s peoples’ money. We should inform them. But I was talking to a friend of mine the other day, a lawyer, and he was complaining about simple English and the fact that nobody uses it anymore. On self-reflection, he said ‘Maybe it’s our fault’.
