A third consecutive year of double-digit returns posted by Colonial First State is a result that chief investment officer Jonathan Armitage attributes to efficient diversification, a sound strategic asset allocation and preparing for the kind of investment environment currently being experienced.
CFS on Thursday revealed its FirstChoice Employer Super growth fund (MySuper Lifestage 1975-79) had returned 12.8 per cent for the year, and the FirstChoice Employer Super balanced fund (MySuper Lifestage 1965-69) had returned 11.4 per cent.
But Armitage he says he is cautious about the outlook from here and expects returns to moderate.
“If you look at the last 20 to 25 years, the average return to members has been somewhere between 6 and 8 per cent,” he says.
“We do think that you’re more likely to return back to those longer-term averages, rather than double digits that our members have benefited from. That’s not a bad outcome, by the way.
“But I think it’s probably right to think that returns will be lower, and one of the things that we are focused on is that we think that those returns may come from a wider range of investment building blocks than they may have done for the last couple of years, where equities have dominated.”
Speaking from London, Armitage tells Investment Magazine that the performance of the past year was “driven in large part by equity exposures” with good contributions from both domestic and global markets.
“You’ve continued to see very strong returns out of both the domestic market here, and again, out of the US,” Armitage says.
“But also what has been interesting is, I think, some broadening-out of equity market returns in the last six months or so – better returns out of areas like Europe and emerging markets, and those have all helped.”
Armitage says CFS reduced its global developed markets equities exposure in favour of emerging markets, in what he says was a tactical shift aimed at diversifying return paths.
“It’s a short time period, but that has actually been to the benefit of some members’ returns, given some of the strengths you’ve seen out of emerging markets, [and a] particularly noteworthy performance out of the Chinese equity market,” he says.
CFS also rotated some fixed income exposure from global to domestic bonds, “and that was part of the yield differential”. At the same time, it continued to build its exposure to private debt and credit.
“That is all around, first of all, building resilience within the investment portfolios,” Armitage says.
“We do think that [given] some of the volatility you’ve seen, particularly in the last six months or so, we should anticipate and prepare our portfolios for something similar going forward. And it’s all around providing diversification to the building blocks that we have in our investment portfolios.”
While CFS made adjustments in several asset classes, its positioning relative to its strategic asset allocation (SAA) benchmarks remained largely neutral.
“We have been pretty much at our benchmarks for domestic equities,” he says.
“We’ve probably been slightly over global equities. The one other thing that I would mention is that we have increased the hedge ratio in the last several months in global equities.
“We had done a bit of that towards the start of this year, but we took advantage of that volatility that you saw post the tariff announcement [on 2 April]. If you remember, there was a Monday when markets were very weak. But also the Australian dollar was very weak, and we did take advantage of that particular weakness to increase the hedge ratio. And it depends a little bit from [fund] option to option, but it’s moved from about 30 per cent up to 35 per cent.”
With largely neutral positions compared to long-term strategic benchmarks, the story of the past 12 months comes down to consistency of process, efficient diversification and not being distracted by the noise of markets and news cycles.
“You have a process around the way that you allocate your members’ capital, and you stick to that; you try to avoid being whipsawed by short term news flow, challenging as that can be at times,” Armitage says.
He says that in the past two to three years the manager has been building out its capabilities in preparation for exactly the kind of investment environment we’re currently seeing.
“We’ve built out our unlisted assets capabilities. We have invested a lot into investment risk and investment risk analytics, and we’ve just brought on someone who has got a data science background to help continue to augment what we do in that area,” he says.
“And then the final thing is that we’ve built a team where we’re managing our cash in-house, our hedging, FX and derivatives; and we have started using those derivative capabilities more widely across our investment portfolios to help us manage risk.
“Those three components have all been part of us preparing our investment capabilities for this type of investment environment.”
Behind the strong near-term results is a medium-term transformation aimed at reducing return volatility, particularly in equity exposures.
“We’ve tried to remove what I’ve referred to as unrewarded risk in the portfolios where there may have been strong, particular factor exposure in the portfolios, where we may have had external managers who had a very strong bias within their investment process, either of growth or value,” he says.
CFS has instead sought “managers who we believe will be much more consistent in the returns that they generate for our members”.
“That has made a big difference, and that’s been particularly true in the last two years in the changes we made in global equities and also in Aussie equities too.”
But Armitage stresses this – along with a neutral position relative to SAA benchmarks – does not represent retreat from active management.
“To be clear, we are still using active managers,” Armitage says.
“We’ve cut off the tails of some of our investment performance, but if you if you were to look at the portfolios, you’d still see them as active managers, absolutely active,” he says.
“So that that has not changed. What we have done is reduce that amplitude of the return path. And that is absolutely something that we think, first of all, has been important in terms of the returns that we’ve delivered. And also, I’d emphasise, that’s absolutely a much better outcome for our members too.”
CFS also began deploying into private equity in the past year.
“We made our first investments there a few months ago [and] we do think that the opportunity to deploy new capital into private equity right now, given some of the funding challenges you are seeing in the marketplace, is pretty interesting,” he says.
“History has suggested that if you’re able to deploy at those times when others aren’t able to deploy, those vintages tend to perform particularly well.”
