Jonathan Armitage

This week Colonial First State joined the growing list of asset owners posting strong investment performance figures for the 2024 financial year, announcing returns of 12.1 per cent and 14.3 per cent for its FirstChoice Employer Super balanced fund and FirstChoice Employer Super growth fund, respectively. 

It’s good news for members, and it’s an investment truism that no return comes without risk. However, CFS chief investment officer Jonathan Armitage says the performance has been achieved with no change to portfolio risk profiles. 

“Our job is to generate good returns for our members, [and] we’ve got to do that in a robust investment risk framework,” Armitage tells Investment Magazine. “Have we changed our risk profile in our investment portfolios? A very clear answer to that is no.” 

But investors can’t be complacent about the attractive returns that have been possible without taking on additional investment risk to achieve them over the past year or two. 

“We’ve been through a period where, with the cost of capital being very low, there was a period where risk appeared to be quite low as well,” Armitage says. 

“We’re moving into a period where the risk control that sits behind our portfolio construction remains as important as ever, [as does] understanding risk in its various different forms. And it’s also about having some imagination about the way that risk can manifest itself.” 

Armitage says that in the past 12 months or so, the $116 billion CFS has built an internal risk management system that is “giving us some great granularity about what we do” and which allows it to run scenario testing and stress-test its portfolios. 

“And that’s not just for some of the things that we’ve seen in the past, whether or not it’s things like the global financial crisis, the tech challenges in the early 2000s; but stress-testing for a dramatic change in bond rates, stress-testing for a dramatic change in interest rates,” Armitage says. 

“Those are things we probably wouldn’t have thought of as particularly high-risk scenarios five years ago, but I think those are exactly the type of things that we possibly should be thinking about.” 

Alpha generator

Armitage says the past 12 months’ performance has been in large part driven by “full exposures to global equities across our various investment options, but we’ve also seen some strong underlying alpha generation from our managers”. 

“Some of that has come from areas like technology, but it’s not exclusively that,” he says. 

“If you look at our Australian performance, we’ve benefited from the resource exposures, companies like BHP and Rio; but also, a stock like Goodman group, which is benefiting from some of the growth in data centres, but also expanding logistics as well. 

“There has not been one straight factor that’s driven investment performance, but actually alpha across both our global and domestic managers.” 

Armitage says CFS has had very little exposure to unlisted real estate, so that has not been a drag on performance. He says he expects a further decline in valuations, though possibly at a slower rate than seen recently. 

Strategic asset allocation – asset class weights
CFS lifestage age cohort: 1975 – 1979 1965 – 1969
Cash 2.0% 6.9%
Australian fixed income 2.6% 12.0%
Global gixed income 1.0% 4.7%
Australian equities 31.7% 25.2%
International equities (hedged) 9.2% 7.3%
International equities (unhedged) 36.7% 29.2%
Property (listed and unlisted) 4.0% 3.0%
Infrastructure (listed and unlisted) 8.0% 6.5%
Other 5.0% 5.4%
Total 100.0% 100.0%
Growth assets 90.0% 72.0%
Source: CFS

“As interest rates continue to be elevated, that just means that discount rates and capitalisation rates are going to remain high as well,” Armitage says. 

“We do expect that there is going to be further adjustment in valuations, certainly in Australia, and you may well continue to see that in the US, UK and parts of Europe, particularly if rates remain higher for longer. 

“One of the things that CFS certainly doesn’t have is any legacy assets, and I think those are some of the bigger challenges where investments were made a decade, a decade and a half ago, in buildings where there are some real challenges bringing them up to the standards that tenants require, but also to meet environmental requirements as well.” 

Normalising volatility

Armitage says CFS expects inflation data to be volatile for the foreseeable future, “and investors must learn to live with that”. He says “the resting heartbeat, therefore, of interest rates is going to be higher than we have expected”, which sets the scene for how its portfolios are positioned and how it thinks about risk and diversification. 

“Having seen some good equity performance in the last 12 months, albeit quite concentrated in developed markets, one of the areas that we’re looking at is emerging markets,” he says. 

“From a valuation perspective, emerging markets in aggregate look very attractive relative to developed [markets]. If you look at Asian emerging markets, there are valuations there that you actually haven’t seen since the Asian financial crisis in the late 90s.” 

Armitage says the fund is also considering smaller companies as a potential diversifying influence. 

“Smaller companies have lagged large companies, in part because up until more recently you’ve had quite concentrated equity market performance. Again, as part of that diversification smaller companies would seem to be diversifying the risk,” he says. 

He says CFS will continue to add private debt to its fixed income holdings, in the belief that “the secular drivers behind the continued growth and evolution of private debt markets are very strong, particularly as regulators continue to raise the capital requirements for banks and certain parts of the lending market”. 

“That is structural, and so you can see continued growth there,” he says. 

Armitage says an environment in which the cost of capital was almost zero made life somewhat easier for investors, but “we’re no longer in that environment”.  

“That requires some different focus in the way that you construct your portfolios,” he says. 

“[that is] looking at diversification in our equity exposure, adding things like private debt, and there will be other opportunities to add to other [non-real estate] unlisted assets, as prices continue to adjust.” 

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