Treasury’s revamped blueprint for the performance test is a clear improvement on the first iteration according to the CIO of Australia’s second largest superannuation fund.

Flaws remain in the Your Future, Your Super reform’s fund performance test according to Aware Super CIO Damian Graham, and will likely present themselves in a range of unintended consequences, yet the industry is on a better path with the “modest positives” included in this week’s draft regulation.

“We actually feel the test as it’s landing is not too bad. It’s not perfect but it’s a reasonably pragmatic middle ground,” Graham said on a panel at the Investment Magazine Fiduciary Investors Symposium on Thursday. “There’s no doubt a performance test is a good objective, a good action to put into place.”

Graham was joined on the panel by Super Consumers Australia director Xavier O’Halloran and Vanguard senior investment strategist Aiden Geysen, both of whom agreed that the performance test was a positive for the industry and its beneficiaries.

“As a test which increases accountability, transparency, and comparability of returns, we believe the proposed performance test – which is really an extension of the heatmap methodology – will benefit member outcomes over time,” Vanguard’s Geysen commented.

Treasury released the draft regulation for the YFYS earlier this week, with major tweaks such as the inclusion of administration fees and added benchmarks for unlisted property and infrastructure, which should enhance the performance test’s accuracy as level of transparency – a boost for members as well as funds keen to avoid being excluded from attracting new members due to consecutive years of underperformance.

Despite the improvements, Graham warns of “potential unintended consequences” that could arise as the reforms are rolled out. “Some are apparent right now, some will become apparent when the approach is implemented,” he added.

The increased pressure to perform into regulated timeframes could exacerbate sequencing risk for those entering retirement, Graham said, which could have a significantly negative effect on members.

“Also, what happens to a fund that is six years or seven years into a period where they’re under-performing and they know that they’ve got 12 months of two years to try and capture that performance back up?” he continued. “That seems to be a situation that would drive some investment decisions that may not be optimal from a long-term perspective.”

While he acknowledged that it wasn’t the most significant issue, Graham also acknowledged the concern of panel host, The Conexus Institute director David Bell, that the test’s exclusion of strategic asset allocation metrics could distort performance measurement.

“Clearly you can have two balanced or two growth funds that have got very diff SAAs and their absolute returns could be very different, and so the lower absolute returning fund could be seen as the better performer in the performance test even though they’ve delivered much lower absolute returns to members,” he said. “That goes to the issue that there’s not a reference to risk and… obviously in a perfect world you’d have a reference to risk.”

The changes that came in the draft regulation are “modest positives”, he reiterated, but some – such as the inclusion of benchmarks for unlisted property – shouldn’t be overstated.

“I haven’t been overplaying the view of the listed and unlisted assets because effectively if you’re invested in unlisted assets you’ve had the view that they’ll outperform through a liquidity premia anyway,” he commented. “I know that’s a small change and a positive one but it’s not the biggest issue for me.

“I do think that it will change the way investment functions in funds consider their broad range of risks,” he added. “That is something funds will get very good at considering.”

Originally First State Super, Aware Super became the nation’s second largest fund with $130 billion under management when it merged with VicSuper and WA Super in 2020.

According to APRA’s latest comparison, the fund is one of only six to outperform the benchmark in all of the regulator’s categories.

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