Your Industry Super fund is about to lie to you

Damien Klassen, Head of Investments at Nucleus Wealth highlights some important issues….

He runs a superannuation fund that only buys liquid assets in separately managed accounts. So, an investor’s return is their return. They can’t rely on tax mingling, unlisted asset revaluations or other accounting tricks that master trusts use. So some may say its sour grapes. But he highlights some surprising facts. Anyone remaining in certain funds bears the brunt of the losses as others chose to leave.

Most superannuation funds, and especially industry funds have significant balances in unlisted assets. Many are telling you that these assets haven’t lost money, or are only down a little despite sharemarkets being down close to 30%. This gives rise to perverse incentives for superannuants:

  • If you leave one of these funds now, you will get paid at the high prices for unlisted assets
  • Anyone left behind bears the brunt of the losses

Rough numbers? I suspect right now that the median superannuation fund will pay you about 7% to leave.

Background

Chant West gave us a quick preview of superannuation fund returns for March:

From Chant West:

“Growth funds, which is where most Australians have their superannuation invested, hold diversified portfolios that are spread across a wide range of growth and defensive asset sectors. This diversification works to cushion the blow during periods of share market weakness. So while Australian and international shares are down at least 27% since the end of January, the median growth fund’s loss has been limited to about 13%.”

Calculation

Some quick maths.

Chant West’s definition of a growth fund is one that has 60-80% of its assets in growth equities.

Let’s call it 70% exposure to shares, 5% cash and 25% to a composite bond fund.

If shares are down “at least” 27%, cash is unchanged, and a composite bond fund is down about 5%, then the implied return is a loss of -20%.

Chant West says the loss is only 13%.

There is 7% missing.

And that assumes that the 25% is in composite bonds, more likely it is higher risk unlisted assets.

So where is the missing money?

Now, individual funds will have different performance obviously. Our own growth fund is down less than 1% over the same time frame, but we took dramatic and aggressive measures at the end of January that I know others did not.

The superannuation market is $3 trillion. It is the market. If, somehow, almost every superannuation fund worked out the same thing we did and sold equities at the end of January, the market would have fallen in January. They didn’t.

The answer is superannuation funds have unlisted assets that they are not writing down. They are pretending that the prices are mostly unchanged from January.

What about the recently announced writedowns?

A few industry funds have written down assets. For example, AustralianSuper has revalued its unlisted infrastructure and property holdings downwards by 7.5%. 

Um, have they looked at the rest of the market? The listed property sector is off more than 40%. Airports? Down 30%+.  Private Equity? Ha! You are telling me that illiquid shares are worth a few per cent less while listed shares are down 25%+ and illiquid bonds aren’t even trading?   

The writedowns help, but are nowhere near the level the assets would sell for today.        

Financial Crisis Comparison

A great example is unlisted property funds during the financial crisis. Unlisted property funds invest in effectively the same assets as listed property funds, the underlying properties are worth the same, the performance differs because of how it is reported:

In 2009, listed property was down 60%, unlisted property reported gains

The perverse superannuation incentive

The problem is that if you own a fund that reports like this, you can be diluted if other investors leave. And any contributions you make now are at inflated prices. To illustrate with an extreme example, let’s say:

  • You and I are the only investors in a super fund with $100 each invested
  • The fund owns 50% an unlisted asset and 50% cash. So, the total value of the fund is $200 made up of $100 in the asset and $100 in cash.
  • The asset falls 60% ($60) in price, so our fund is now only worth $140 ($70 each, we both should take a 30% loss), but the fund doesn’t revalue the asset and so reports the fund still being worth $200.
  • I decide to redeem my holding in the fund.
  • The unlisted asset can’t be easily sold, and so the fund pays me $100 cash being half of the $200 that the fund is still being officially valued at. I’ve broken even!
  • This leaves you with $40 of unlisted assets – a 60% loss which is double the loss that you should have taken.

Adding insult to injury

The other problem with a typical superannuation fund (but not some of the newer ones that use a separately managed account structure) is your tax is mixed with other investors. Rodney Lay from IIR recently highlighted the issue:

…unit trust investors face another risk – being subject to the taxation implications of the trading activities of other investors. Net redemption requests may require the manager to sell underlying portfolio holdings which, in turn, may crystallise a capital gain… …During the GFC some investors had both (substantial) negative returns plus a tax bill on the fund’s crystallised gains. Good times!!!

Net effect

So, if you are a loyal soldier sticking with a superannuation fund that continues valuing unlisted assets at last year’s prices then:

  1. You are going to absorb the losses of anyone that leaves
  2. You might even get an additional tax bill because the people that leave trigger a CGT event for you

But at least your superannuation fund will be able to “report” higher returns.

Auction Results 28 March 2020

Domain released their preliminary results for today – actually most results from the past two weeks, not much today as the economic freeze continues.

The data clearly shows a slowing. Expect more drops ahead – especially if we are forced to follow the draconian UK measures to stop property transactions.

Canberra listed 66 auctions, reported 31 with 20 withdrawn and 7 passed in, giving a Domain clearance of 47%.

Brisbane listed 131 auctions, reported 23 with 18 sold and 67 withdrawn with 5 passed in to give a Domain clearance of 20%.

Adelaide listed 68 auctions, reported 15 with 13 sold with 51 withdrawn and 2 passed in giving a Domain clearance of 20%.

So, Is This The “Big One”? – With Harry Dent

I discuss the latest market ructions with Economist and Author Harry Dent. Is this the massive financial correction he has been forecasting? What strategies are available in the current environment? How should we react?

Note: DFA has no commercial relationship with Harry Dent.

Senate Unanimously Passes $2T Stimulus Package

The Senate unanimously passed a massive stimulus package late Wednesday night in an effort to jumpstart the US an economy. As reported in The Hill

The bill provides more than $2 trillion for workers, small business and industries impacted in recent weeks by the virus. 

The bill marks an unprecedented attempt by the federal government to revive the economy and prevent a deep recession. The 2008 Troubled Asset Relief Program (TARP), by comparison, was $700 billion. 

The Senate’s vote comes one week after they passed a $104 billion “phase two” coronavirus package. 

The wide-reaching bill includes a $1,200 one-time check for individuals who make up to $75,000. That amount would scale down until it reached an annual income threshold of $99,000, where it would phase out altogether.  

It also provides $377 billion in small business aid, would defer federal student loan payments through Sept. 30, 2020, and would prevent money given under the bill to the Pentagon to be transferred to the border wall.  

The bill also provides $100 billion for hospitals and $200 billion for other “domestic priorities,” including child care and assistance for seniors. 

The unemployment provision includes four months of boosted unemployment benefits, including increasing the maximum unemployment benefit by $600. 

The 700-plus page bill includes a $500 corporate liquidity fund to corporations; $25 billion would be set aside for U.S. airlines, $4 billion for air cargo carriers and $17 billion for other distressed companies related to critical national security. 

Is There Still A Property Market Front Line? – With Chris Bates

Financial Adviser and Mortgage Broker Chris Bates and I discuss the late breaking news about property. Who are the winners and losers?

Chris can be found at www.wealthful.com.au & www.theelephantintheroom.com.au plus via LinkedIn: https://www.linkedin.com/in/christopherbates

CBA Provides Advice To Customers

A large scale communication campaign has been launched by CBA to clearly address customers’ most common questions and concerns. It is one of the clearest I have seen yet, and provides some really helpful advice. Kudos to them on their Financial Guide for Customers.

In what is a concerning and confusing time for many Australians, Commonwealth Bank is launching a mass coronavirus communication campaign from today, across all mainstream and social media channels, to help customers access the support and information they need.

CBA’s financial assistance contact centres are currently receiving up to eight times the usual call volumes with a significant number of customers wanting information on how to access support from CBA as well as the recently announced Government assistance measures as they face job loss and business closures.  

This new campaign, centred on a detailed Financial Guide for Customers, aims to provide clear, concise, consistent and reliable information to help customers navigate the large volume of recent announcements, as they try to comprehend what support they are eligible for and how to access it quickly.

Customers are also looking for reassurance as well as the tools that will help them regain control of their financial wellbeing.

With the Federal Government designating banking as an essential service, Commonwealth Bank intends to keep as many of its branches open as possible while also encouraging customers to use digital banking for all banking needs other than those for which a visit to a branch is unavoidable. Branches have a range of safe distancing, health and hygiene measures in place.

At such an important time for customers in need, CBA will do whatever it can to help keep as many businesses afloat, as many people in jobs, and as many people in their homes, as possible.

The new Financial Guide will be regularly updated in its easy-to-read format and is available at www.commbank.com.au/coronavirus. 

Australian Businesses Report Widespread Impacts In March


The Australian Bureau of Statistics (ABS) has released the results of the first Business Impacts of COVID-19 survey as part of a series of additional product releases over the coming months to help measure the economic impact of coronavirus.

This release provides information on the prevalence and nature of adverse impacts from COVID-19 experienced by businesses operating in Australia in mid-March 2020.

Approximately half of the Australian businesses surveyed (49%) had experienced an adverse impact as a result of COVID-19 during the mid-March data collection period and 86% of businesses expected to be impacted in future months. The collection period pre-dated the Australian Government’s announcement of Phase 1 Social Distancing Measures.

Adverse impacts were most prevalent in Accommodation & food services with over three quarters of businesses (78%) already reporting impacts and 96% of businesses reporting that they expected impacts in coming months. Businesses in Professional, scientific & technical services (21%), Electricity, gas and water supply (34%) and businesses in Mining (37%) were the least likely to have been adversely impacted by COVID-19 in the collection period.

A reduction in local demand was the most common impact experienced (82%) and was also the most common impact expected in coming months (81%). Of impacted businesses, over a third had experienced staff shortages (36%) and 59% expected to experience staff shortages in coming months.