Superannuation funds need to reassess whether the models they use to predict targeted returns are applicable given the lower return environments that preceded, and have been exacerbated by, the coronavirus pandemic, according to Rice Warner.
The research and consulting group said many of the default superannuation fund offerings from not-for-profit and retail super providers, known as MySuper funds, are still predicting 10-year returns in line with past predictions, but current global economics are unlikely to support that level of returns.
In a column published on its website, the group noted global share markets had climbed to high levels in 2019 and questioned, at the time, if future returns would fall when growth rates reverted to long-term averages.
Since then markets had crashed as a result of the COVID-19 pandemic, creating a steep recession, and record levels of government intervention had disrupted all normal market trends, it added.
“No doubt, the valuations will stabilise as the economy recovers, but it could take a few years to get back to the new normal, whatever that might look like. This must impact on our expectations for asset classes,” it said.
Rice Warner highlighted all MySuper funds show an expected return above the consumer price index (CPI) that is usually over 10 years and is a good proxy for the long term, and despite some funds reducing their target returns, “most still believe they can achieve similar long-term results as they did in the past”.
“However, given the world is in the deepest recession in 90 years, we should challenge whether the future will be as benign as the recent past,” it said.
While consumers are still likely to use past performance as a basis for comparisons, the only other useful metric was the target return and this had to be calculated reasonably to prevent consumers chasing a high target without understanding the risk involved, it said.
Average targeted returns for industry and retail funds were in the range of 3.5 per cent a year above CPI, after investment fees and taxes, according to the group, which noted if underlying inflation is currently less than 2 per cent a year, the funds would need to earn 5 per cent to 6 per cent to reach these targets.
“While that seems plausible, these figures are likely to be disconnected from the realised returns over much of the next decade,” it said.
“For example, 10-year bonds now yield 1.1 per cent and equity markets usually have dismal performance during recessions, so where will these high returns be made? If the targets are now too high, should they not be lowered?
“Without a proper assessment of risk, the targets can be misleading both for members’ plans and for peer comparisons.
“The recent market turbulence provides a good reason for funds to review whether their MySuper asset allocation and design has performed as expected, is appropriate for the future and is delivering to the investment objective the trustee has for its members.”
