OPINION | The danger with all the argy bargy about the need to reduce superannuation investment fees is that crude price comparisons fail to account for the different underlying asset allocation members are paying for.
Superannuation fees have come under intense scrutiny in recent years, especially since the 2014 Financial System Inquiry concluded that on average, they were too high.
The inquiry, led by former Commonwealth Bank boss David Murray, noted the fees charged by Australian super funds are among the highest charged in all Organisation for Economic Co-operation and Development member countries.
The Murray inquiry also found that the wealth management industry had failed to harness economies of scale, with investment fees relatively static despite massive growth in the sector over the past two decades.
This is a significant issue for investors and advisers, as incremental differences in fees could deliver markedly different retirement outcomes.
Across a $2 trillion pool of assets, excess fees of just 10 basis points could cost investors $2 billion annually.
Lower fees can clearly contribute to stronger net returns, but assessing whether an investment fee is appropriate or not is a far more complex task than picking the lowest fee option.
Nor is it merely a question of picking the fund with the track record of higher returns, as it is also necessary to consider the broader risk characteristics and investment choices of the fund.
With these nuances in mind, the Centre for International Finance and Regulation (CIFR) recently conducted a research project to gain a better understanding of the factors that influence the investment fees charged by super funds.
The study analysed data compiled by research house Chant West between 2007 and 2015, to compare the investment fees and corresponding asset allocation of 174 investment options from 49 super funds.
My fellow researchers and I found that asset allocation was a key factor underpinning the investment fees charged by super funds.
Hedge funds and private equity had the greatest impact on total fees, followed by infrastructure. But these asset classes had also delivered stronger long-term returns.
Among those super funds with a higher asset allocation to unlisted assets, we found corporate and public sector funds charged the lowest investment fees, followed by industry funds. Retail funds, on average, charged a higher fee.
In terms of performance, we found that funds with higher fees did, on average, deliver higher returns. However, after adjusting returns for benchmark indices and asset pricing risk factors, there was no apparent relation between fund performance and fees. As such, high-fee funds were found to perform indifferently from low-fee funds on a benchmark-adjusted basis, after fees. These findings were largely unaffected by the inclusion of administration fees.
A need for more transparency
Based on the findings of the study, my fellow researchers and I would recommend additional disclosure requirements for super funds. In addition to the strategic weights in each asset allocation class, we propose that funds should disclose:
- The returns earned for each asset class
- The investment fee charged for each asset class
- The proportion of each asset class that is passively managed.
These disclosures would facilitate an improved flow of information to super fund members and assist them in gaining a better understanding of investment performance.
Furthermore, they would provide analysts and ratings companies with an opportunity to benchmark super funds’ performance across different asset classes in a more rigorous manner than is currently possible using publicly available information.
This would make it much easier for performance to be compared on a risk-adjusted basis. These disclosures would also enable investment fees to be accurately benchmarked. In turn, this would enable members to identify where fees are eroding their account balances, and provide them with a basis upon which to decide whether the fees are worthy of the returns being generated.
Investors should be cautious when making investment decisions based solely on fee levels.
Similarly, fund managers should not be forced to reduce investment fees solely to remain competitive. This could lead to divestment from certain asset classes that provide high after-fee returns, which would adversely affect retirement balances.
Dr Andrew Ainsworth is a senior lecturer at The University of Sydney, and was the lead researcher for the Centre for International Finance and Regulation (CIFR) study referenced in this article. This article first appeared in the December print edition of Investment Magazine. To subscribe and have the magazine delivered CLICK HERE. To sign-up for our free regular email newsletters CLICK HERE.