Australia’s asset owners are approaching something of a tipping point – one where a series of major changes sweeping the industry has funds bracing themselves for an onslaught of new threats.
Unrelenting pressure on the industry has accelerated as super funds face a tougher investment environment, intense regulatory scrutiny and greater disruption to the traditional industry fund default model, according to Cbus Super CIO, Kristian Fok.
Add into the mix the consolidation of small account balances – the one-touch payroll that makes switching accounts easier – and the stark reality that members are now highly-engaged as a result of the Hayne royal commission.
“Industry funds are dealing with a shortfall in their revenue base and cutthroat competition,” Fok says.
“While from the outside it looks as though industry funds are winning as cash continues to flow from the retail funds, the reality is that the same dynamics that have disrupted the retail funds will potentially disrupt us.”
Given the fiercely competitive environment, improving member engagement through new technology is an “increasing thematic” and top of Fok’s ‘to do’ list.
“We have to ensure our offering is more aligned to members,” he says.
To that end, Cbus is focussing its technological efforts on targeting members who are susceptible to being spooked by volatile markets and are thus more likely to shift their money to a less desirable fund.
Adds Fok: “It is already difficult to achieve good returns in this environment so having members over-react to news items designed to shock, means they’ll be worse off as a result.”
The CIO’s efforts underline the importance of member behaviour in a low-return environment.
Like many of his counterparts, Fok does not believe cash rates are going back to previous levels any time soon.
“Our long-term view is that rates will probably get back to something above two per cent in 10 years’ time,” he says. “If you look at the long end of the fixed interest curve, it is telling us that rates won’t even get up to two per cent, but will stay lower.”
In the short term, the investment specialist reckons it makes sense to have more defensively positioned investment strategies and build more liquidity into portfolios so as to take advantage of a market correction.
But this creates some interesting dynamics, he adds.
“If you look past the shorter-term cycle: if the cash rates remain low – even if they lift to 3 per cent – then assets like property and infrastructure, which look expensive, are fair value compared to cash rates and bonds.”
So, if lower cash rates are the new normal, he goes on to say, then our strategy is to invest in the riskier asset classes.
“This is not about taking more risk to try and compensate for lower returns; it’s actually saying those asset classes look attractive in that scenario,” he says.
To Fok, the bigger problem is working out what exactly is generating such a low cash rate.
“Is it really low growth or low inflation?” he asks. “That sorted, it’ a case of evaluating individual assets and deciding which ones are more robust in that type of environment.”
On his analysis, property and infrastructure assets don’t look expensive but he warns that these strategies now require a more targeted evaluation.
For instance, with property, exposure to certain tenants and rental agreements becomes key. And in the case of infrastructure assets, what matters is the revenue driver. “Are revenues CPI-linked? Are they fixed increment? Are they based on GDP growth or are they based on growth in a particular sector or country?”
In the past, he argues, anything that had long duration and long risk did well, but that’s now not automatically going to be the case.
“When you think of ways to construct a portfolio that will deliver better returns, it may be that some assets that are considered expensive because they generate lower returns than in the past, and have a lower risk, may look more attractive on a risk-adjusted return basis.”
Fok is also looking at the liquid alternatives despite their poor performance as well as opportunities in direct lending.
In his view, market disruption creates opportunities for active managers to beat the benchmark. He listed examples of ‘noise’ elements such as trade wars, the impact of the Hayne royal commission on bank share prices and the fallout from the surprise election.
To Fok, these are all external macro events but they prompt some investors to reprice companies as a result – even though the company’s underlying fundamentals don’t change.
“Long-term investment is about sifting through information to see what’s valuable and what might be overreaction to that information,” he says. “Short term noise creates opportunity.”
By Elizabeth Fry - Elizabeth Fry has been a financial journalist for more than 25 years and has written for a number of publications, including CFO, The Financial Times and The Australian Financial Review.
12 June 2019