Super returns and the importance of diversification

Apr 2, 2020 | Private Wealth

Investors in professionally managed superannuation funds, especially those with higher exposures to equities, on average achieved returns of 14 per cent to 20 per cent in 2019.

It was a strong investment year for managed superannuation funds generally and, likewise, should have been for self-managed superannuation fund trustees.

Variances in returns from managed super funds will have depended on a range of factors, including the assets that different superannuation funds were invested in, the investment strategies chosen by individual super fund members themselves and, importantly, the level of costs levied by each super fund.

These days, managed super fund investors have a wide range of investment options to choose outside of the default balanced options provided, ranging from specific asset classes to blended allocations based around risk profiles and age bands.

Median returns on balanced fund options (50 per cent equities and 50 per cent fixed income and cash) were around 15 per cent by the close of the year, according to research group SuperRatings.

Those adopting a growth strategy with a higher allocation to shares (70 per cent equities and 30 per cent fixed income and cash) achieved median returns of around 19 per cent.

Returns and asset allocations

So, how did your SMSF perform against the professionally managed superannuation fund pack?

The returns by individual SMSFs, of course, largely will have come down to the specific asset allocation strategy of each fund. If you invest like a professional superannuation investment team, with exposures to a range of different asset classes, you should have achieved similar returns.

Yet, essentially, if you operate an SMSF, your focus should be to at least match the returns of the broader investment community and, specifically, those of the investment managers within the managed super funds sector.

Good diversification, based on establishing an asset allocation plan that incorporates reasonable expectations for risk and returns, is one of the keys to a successful investment strategy.

Time and again, however, Australian Tax Office data tracking the allocations of SMSFs show many are not well diversified.

Many SMSFs were established solely for the purpose of buying assets that can’t be accessed through a managed super fund, such as an unlisted direct commercial or residential property holding.

But, ideally, self-managed investors also should have a combination of equities, bonds and other investment types to provide both growth and income over the long term, to have the best chance for investment success.

Specific asset classes will always perform differently from year to year, depending on the market dynamics at play.

In the last year, listed equities and bonds both delivered strong returns, because record low interest rates are continuing to drive capital inflows into higher-yielding assets.

Indexing broadens diversification

Listed equities delivered high returns in 2019, and a useful returns barometer in the Australian context is the S&P/ASX 300 Index, comprising the largest domestic companies by market capitalisation.

This index replicates the S&P/ASX 200 Index, but also incorporates another 100 of the top listed companies by market capitalisation to provide even broader diversification.

From the start of January 2019 to the end of December, the S&P/ASX 300 Index rose 20.62 per cent (against 20.26 per cent by the 200 index) – with the total value of all the companies in the 300 index gaining more than $350 billion to just over $2 trillion.

Having broad exposure to the entire S&P/ASX 300 through an index fund would have achieved returns close to 20 per cent net, after costs. Behind that overall return were some very strong gains by a number of Australia’s largest companies.

In the top 10 listed ranks, for example, the share price of blood products manufacturer CSL rose close to 50 per cent during 2019, reflecting the enormous success of its global operations.

Other strong performers in the top 10 included financial services group Macquarie, diversified industrial Wesfarmers, and telecommunications provider Telstra – each up around 30 per cent.

However, gains in the top tier were not homogenous. Reflecting slower growth and various outcomes from the financial services Royal Commission, including prosecutions and remediation costs, Australia’s major banks recorded lacklustre share price growth returns.

After four years of share price recovery mining giant BHP lost ground, closing 2019 around 3 per cent lower.

So, while the broader 300 index was well higher in 2019, on a consolidated basis the top 10 companies were only up 14 per cent.

Diversification lowers risk

Which again shows the true value of diversification, even within asset classes themselves.

Diversification is a powerful strategy for managing traditional risks. Within an asset class (such as equities or bonds), diversification reduces a portfolio’s exposure to risks associated with a particular company or sector.

Across asset classes, it reduces a portfolio’s exposure to the risks of any one class. It cannot eliminate the risk of loss, but it can help to protect against unnecessarily large losses resulting from the underperformance of one portion of the portfolio. Undiversified portfolios also have greater potential to suffer catastrophic losses.

In the period ahead, which is likely to be punctuated with greater volatility, good diversification will really come to the fore.

 Please contact us on |PHONE| if you seek further assistance on this topic.

 

Reproduced with permission of Vanguard Investments Australia Ltd

Vanguard Investments Australia Ltd (ABN 72 072 881 086 / AFS Licence 227263) is the product issuer. We have not taken yours and your clients’ circumstances into account when preparing this material so it may not be applicable to the particular situation you are considering. You should consider your circumstances and our Product Disclosure Statement (PDS) or Prospectus before making any investment decision. You can access our PDS or Prospectus online or by calling us. This material was prepared in good faith and we accept no liability for any errors or omissions. Past performance is not an indication of future performance.

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<a href="https://ugc.net.au/author/louis/" target="_self">Louis van Coppenhagen</a>

Louis van Coppenhagen

Louis is a Financial Adviser with 15 years experience, three university degrees and specialist qualification in Aged Care.

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