Australian superannuation funds are seeking greater control of how they put rising cash balances to best use as they seek out a broader range of investment opportunities, often outside traditional asset classes.
The focus on cash also comes amid periodic bouts of volatility in global financial markets over the last two years, even as the prudential regulator steps up scrutiny of the sector’s liquidity resilience following a build-up in exposure to unlisted assets.
Australia’s largest super fund, the $340 billion AustralianSuper says it has been investing in liquidity management capabilities over the last five years, including through the establishment of a Treasury function and a global internal cash management team.
“The investment in our global treasury team ensures that our liquidity held in foreign markets is appropriately managed, in a timely fashion, to optimise our ability to support our global listed and unlisted investment portfolio,” says Claire Thornton, the fund’s head of balance sheet management.
“AustralianSuper has broadened its investment strategies, and the benefits of optimising our liquidity management have also increased.”
Claire Thornton, AustralianSuper
“As our members’ funds have grown, AustralianSuper has broadened its investment strategies, and the benefits of optimising our liquidity management have also increased.”
Diversifying Liquidity
Australia’s pension system is the fastest-growing retirement savings pool in the world, raking in inflows of about $2 billion a week from compulsory contributions that increased to 11.5 per cent of workers’ salaries on July 1 and are legislated to peak at 12 per cent in 2025.
Funds have channeled this heady growth by lifting investments in overseas equities and bonds, but also in unlisted markets in international infrastructure, property and private credit.
Given its growing overseas footprint and staff numbers, the $170 billion Aware Super launched a US-dollar liquidity strategy about 18 months ago.
“We’ve recently increased our capability to manage US dollar cash, allowing us to diversify our liquidity outside the traditional Australian market,” its head of income and markets, Michael Clavin, says.
“As the fund gets larger, we’re looking at diversifying away from AUD being the sole, short-term liquidity and making sure that we have a greater diversity of markets and counterparties in our liquidity pool.”
Aware started internalising part of its cash function in 2011, and its Australian cash pool is now entirely managed internally, which Clavin says gives the fund greater control on how it manages liquidity through different parts of the cycle.
Clavin says ensuring adequate liquidity also gives funds confidence about meeting their obligations, whether these relate to redemptions, currency hedging and derivatives programs, or in relation to maintaining their strategic asset allocations.
Boosting returns
With tens of billions of dollars in cash holdings now being managed by each of the large super funds, generating alpha from better treasury management is becoming a key part of their liquidity strategy.
While this can result in a meaningful performance uptick, the scope to boost returns can vary significantly across their numerous portfolios.
“The return enhancement opportunities of cash are more important in the more conservative funds that have larger cash holdings.”
Stuart Eliot, AMP
“The return enhancement opportunities of cash are more important in the more conservative funds that have larger cash holdings,” says AMP’s head of portfolio management Stuart Eliot.
“But in the higher growth portfolios, you’re not really holding that much cash as a return driver. It’s more to facilitate other activities in the fund, whether that be cash flows or rebalancing, but also having a small amount of cash that facilitates taking some dynamic asset allocation tilts as well.”
Fund managers are clear that the specific investment decisions are led by a top-down asset allocation framework, regardless of cash holdings. But high cash balances do indirectly support the increasing diversification beyond traditional asset classes of listed securities and real estate.
In AMP’s case, that has taken the form of increasing allocations in recent years to high-yield debt, securitised loans, emerging markets, and private credit.
“We’ve also been increasing our allocation to direct infrastructure,” Eliot says.
“Partly that is portfolio construction and diversification, but it also is a benefit from the trajectory of cash flows that allows us to make these investments with confidence.”
Risk control
As they become more active in overseas and unlisted markets, super funds have set in place a number of measures to manage the liquidity risk, as markets remain volatile ahead of a potential monetary easing cycle by major central banks and as regulatory scrutiny increases.
It follows the UK pension stress in 2022 due to gilts volatility that resulted in an intervention from the Bank of England, as well as a global banking volatility last year that led to the collapse of several US and European banks.
“You have to have the right data and the right platform to manage your liquidity obligations.”
Michael Clavin, Aware Super
“As the fund has grown, so has the regulation, and the market has meant that it’s essential to have the right data and the right platform to manage your liquidity obligations. It’s hard to optimise them,” Aware Super’s Clavin says.
Aware’s strategy to manage the risk of market stress has been to create a central pool of liquidity that can be moved throughout the fund easily.
“We also have teams and processes that look at what the best way to meet liquidity of the fund is at any given time, and that means looking at the fund’s positions, but also looking on what’s going on the external market,” Clavin says.
Aware Super takes the approach of distinguishing between cash held for longer-term asset allocation needs, and cash held to provision for a severe but plausible period of liquidity stress.
Its treasury team also employs behavioural analysis to model estimated redemptions under stress conditions and actively monitors member activity so sufficient cash is available to meet member demands.
On a more operational level, funds tend to use derivatives including exchange-traded futures, total return swaps or CD index swaps as a means to hedge their overseas funds’ exposures, rebalancing to physical assets over time.
Australian super funds have also been adopting the use of triparty agents to generate better returns, as they increasingly take control of their own collateral and liquidity, and not rely solely on their agent banks.
“A mechanism where you can, in many market situations, still lend out to a wide range of counterparties, without worrying about collateral operations.”
Otto Vaeisaenen, BNY
“It’s a mechanism where you can, in many market situations, still lend out to a wide range of counterparties,without worrying about collateral operations, so it’s possible to mitigate counterparty risk by having easy access to them, and by having collateral on transactions with them,” says Otto Vaeisaenen, director for clearance and collateral management at The Bank of New York Mellon Corporation (BNY), a global financial services company and the largest player in the segment globally according to a recent Finadium survey.
The approach allows institutions with collateral obligations to take advantage of the triparty agent’s infrastructure to optimise and automate the collateral process. In addition, the collateral received can be reused to cover initial margin, amongst other collateral obligations.
“It’s early but it is the trend we are observing for the super funds to trade those cash pools directly with their counterparty banks by using a triparty platform,” Vaeisaenen says.
“That is what we’ve already seen with pension and other types of funds both in US and Europe. So, with all the advantages that the use of triparty agents brings, I would expect that this is going to be the same trend here.”
