Dr Ken Henry’s comments at the Association of Superannuation Funds of Australia (ASFA) Investment Interchange debate entitled ‘Should the super industry invest more in fixed interest?’ have re-ignited the discussion about the optimal portfolio mix of stocks and bonds in a superannuation account. His comments are important in that they strike at the heart of how ‘success’ is currently framed in superannuation and the need for a new, outcome oriented, conversation.
So what is a super member to do? More stocks? More bonds? The answer is yes and yes, but needs to be framed by the outcome the member seeks to achieve in superannuation. For a 25-year old, it can be argued that the standard 70:30 portfolio (70 per cent allocated to growth assets and 30 per cent to defensive assets) is too conservative – the primary risk facing these relatively small-balance members is retirement adequacy (specifically, the risk of not having adequate savings at the end of one’s working life). However, for a 55-year old, the major risk is sequencing risk, that is, the chance of an adverse market event when the largest amount of money is in play. From a sequencing-risk perspective, the 70:30 portfolio may not be appropriate.
Acting in time In short, safety and risk change over your investing life. When we are younger it may be retirement adequacy that is the key issue – more stocks? Yes. As we approach retirement, sequencing risk is more appropriate – more bonds? Yes. In the decumulation phase, we need an asset allocation to mitigate longevity and inflation risk. However, we seem to frame the superannuation conversation around a single asset allocation in an attempt to manage all these ills.
Australia’s superannuation system continues to operate as a first-generation, or target-risk, asset-allocation model where individual savings are aggregated into large pools of conservative, balanced and growth portfolios based on generic risk profiles – with the vast majority of members in the default option. To address changing age profiles, the funds permit their members to switch between the various portfolios. The perennial advice for older members is to shift to the more conservative portfolio as they move closer to retirement age.
The problem with the current design of Australia’s superannuation system is that it does not address whether an individual will truly achieve their retirement target and what asset allocation is optimal if an individual is not achieving their retirement-target objectives. These issues reflect the real-life risks that are experienced by a super member. The time has come to reconsider what we ask of superannuation funds to provide next-generation solutions that frame measures of success around outcomes.