Investment Magazine Feb18_Issue 146

INTELLIGENCE FOR INSTITUTIONAL INVESTORS

ISSUE 146

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FEBRUARY 2018

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QIC Limited ACN 130 539 123 (“QIC�) is a wholesale funds manager and its products and services are not directly available to, and this communication is not intended for, retail investors. Past performance is not an indication of future performance. For more information about QIC, our approach and regulatory framework, please refer to our website www.qic.com or contact us directly. *As of 31 December 2017.

THIS ISSUE \

CONTENTS FEBRUARY 2018

COVER STORY

OPINION

06

20

REMUNERATION

RATINGS RACKET

The 2018 Investment Magazine Super Salary Survey shows executive bonuses are now the norm

First Super CEO Bill Watson rips into league table providers

29 GROUP LIFE

FEATURES

26 REAL ESTATE Institutional property investors are more focused on income than asset valuations

30 CIO OUTLOOK Finalists for CIO of the Year at the Conexus Financial Superannuation Awards are readying for the storm

38 PRIVATE EQUITY Antoinette Schoar’s update of her landmark research shows why the asset class is losing its lustre

18

Lawyer John Berrill argues for reform to support rehabilitation

37 EXECUTIVE EDUCATION Qantas Super CIO Andrew Spence reflects on lessons in leadership

40 FEES & COSTS AIST’s Ailsa Goodwin advocates for Choice product dashboards

41 RG 97 REVIEW ASIC’s Jane Eccleston assures industry the regulator is listening

42 PROFIT & PURPOSE

CHAIR’S SEAT

“What is bread-and-butter for the investment specialist is most likely a foreign subject for the typical super fund trustee” KEN MARSHMAN | CHAIR | REST INDUSTRY SUPER

Michael Traill on how Sunsuper is incorporating impact investing

03

04

\ FROM THE EDITOR

EDITORIAL EDITOR

SALLY ROSE / sally.rose@conexusfinancial.com.au

Sally Rose DIRECTOR OF INSTITUTIONAL CONTENT

Amanda White EDITOR-AT-LARGE

A LETTER from the editor

A

TALENT’S PRICE SIGNALS

Simon Hoyle HEAD OF DESIGN

Kelly Patterson ART DIRECTOR

Suzanne Elworthy SUB-EDITOR

Haki P. Crisden PHOTOGRAPHER

Matt Fatches matt@mattfatches.com.au CHIEF EXECUTIVE

S IS TRADITION, our first issue for the new year includes the annual Investment Magazine Super Fund Salary Survey.

We first began collating and comparing pay data for the chief executives, chief investment officers and chairs of the country’s largest non-profit funds four years ago.

Some of the executives and trustees whose salaries are highlighted in the survey are understandably made a bit uncomfortable by it. A few have noted that gawking at other people’s pay packets is all a bit gauche.

That said, the readership numbers on Google Analytics don’t lie. So, don’t deny you love it. Even if you do complain.

One challenge with the survey is that inconsistent rules in how the regulator requires MySuper and Choice fund providers to disclose their remuneration data lead to the survey excluding retail funds, which typically pay more generously.

But the thorniest issue with the Super Fund Salary Survey is its inability to place big pay and bonus packages in the context of the relative value they represent for super fund members.

For the financial year ended June 30, 2017, UniSuper CIO John Pearce was the highest-paid executive in the non-profit funds sector, taking home more than $1.4 million, over half of which was earned via shortterm incentive payments.

In quantitative terms, he was the biggest earner in the industry.

Considering that through the murkier lens of qualitative analysis, all

FEBRUARY 2018

indicators point to Pearce’s salary representing bloody good value to UniSuper members. The CIO leads one of the biggest, most complex, investment teams in the country; it’s well-governed and consistently high-performing. And more than half of his pay was at risk.

So, who cares how much he (or any other fund exec) earns so long as it results in better net returns to members over the long term?

In defence of the Super Fund Salary Survey, while a simple list comparing individuals’ remuneration fails to capture the nuances of relative value, a clear and comparable view of these facts is a necessary starting point for an informed debate about whether the sum and structure of how super funds pay their key people is appropriate.

The strongest theme evident in the latest data is that performancelinked bonuses, long standard in the retail funds, are quickly becoming the norm in the non-profit sector.

Our recently departed editorat-large Simon Hoyle spoke to remuneration experts to glean their insights into why funds are going down this path to attract and retain top talent, and how they are ensuring incentives are aligned with the cultural values they wish to promote.

Getting this right will be critical to the competitiveness and efficiency of Australia’s super system.

For evidence of what happens when an industry is hampered in its ability to pay market rates for talent, let us look no further than Australian Parliament.

Colin Tate

ADVERTISING BUSINESS DEVELOPMENT MANAGER

Karlee Samuels

karlee.samuels@conexusfinancial.com.au (02) 9227 5721, 0420 561 947 BUSINESS DEVELOPMENT MANAGER

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sean.scallan@conexusfinancial.com.au (02) 9227 5719, 0422 843 155 SUBSCRIPTIONS

Elizabeth Notman

elizabeth.notman@conexusfinancial.com.au (02) 9227 5718 CLIENT RELATIONSHIP MANAGER (EVENTS)

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Exclusive Media Partner of

ADVISORY BOARD MEMBERS Graeme Arnott, chief operating officer, First State Super | Richard Brandweiner, partner, Leapfrog Investments | Peter Curtis, head of investment operations, AustralianSuper | Joanna Davison, chief executive, FEAL | Kristian Fok, executive manager for investment strategy, Cbus | Damian Graham, chief investment officer, First State Super | Sheridan Lee, principal, Shed Enterprises | Geoff Lloyd, managing director, Perpetual | Graeme Mather, head of distribution, product and marketing, Schroders | Damien Mu, chief executive, AIA Australia | Mary Murphy, chief digital officer, First State Super

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INVESTMENT MAGAZINE

POST RETIREMENT CONFERENCE MARCH 20, 2018 AMORA HOTEL JAMISON SYDNEY, NSW RETIREES’ REALITY IN THE AGE OF RADICAL UNCERTAINTY We live in an era of VUCA – volatility, uncertainty, complexity, and ambiguity. The post-retirement industry needs to be more forward-thinking than ever.

Here is your opportunity to get ahead of the pack by future-proofing how the financial industry adapts in an evolving landscape of uncertainty for retirees.

The 10th-annual Investment Magazine Post Retirement Conference presents 27 industry leaders and specialists at the forefront of the sector.

This is your ticket to mastering the ever-evolving expectations for retirement.

WHO SHOULD ATTEND Senior personnel from retail, industry, public and corporate super funds, SMSFs, insurance providers, banks, government agencies, policymakers, regulators, legal and taxation advisers, retirement income and investment product providers, university department heads, analysts and researchers, strategists, IT and software vendors and consultants.

REGISTER NOW

postretirement.com.au CONTACT events@conexusf inancial.com.au

Ph 02 9221 1114

06

\ E VERY INCENTIVE

PERFORMANCE-BASED REMUNERATION, long the norm across the highly paid for-profit funds sector, is now also commonplace in the non-profit funds sector.

And there’s no magic formula FOR HOW TO MAKE IT PAY OFF FOR MEMBERS.

By Simon Hoyle + Reshma Gupta (lead researcher)

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E VERY INCENTIVE \

TOP 5 earners The highest-paid CHIEF INVESTMENT OFFICERS FUND

FUM ($b) CIO

TOTAL REM ($)

1

UniSuper

62 John Pearce

1,433,738

2

AustralianSuper

119 Mark Delaney

1,430,780

3

Commonwealth Superannuation Corporation

38 Alison Tarditi

1,214,478

4

Future Fund

134 Raphael Arndt

1,144,375

5

QSuper

94 Brad Holzberger

994,439

The highest-paid CHIEF EXECUTIVES FUND

FUM ($b) CEO

TOTAL REM ($)

1

Future Fund

134 David Neal

2

Local Government Super

11 Peter Lambert

3

VFMC

56 Lisa Gray

4

QSuper

94 Michael Pennisi

985,273

5

Sunsuper

45 Scott Hartley

938,992

1,256,011 1,120,396 950,000 - 959,999

The highest-paid CHAIRS FUND

FUM ($b) CHAIR

TOTAL REM ($)

1

TWUSUPER

5 David Galbally

2

TelstraSuper

20 David Leggo

226,097

3

UniSuper

62 Christopher Cuffe

222,200

4

Future Fund

5

REST Industry Super

134 Peter Costello 45 Kenneth Marshman

A

277,200

206,330 203,000

s the superannuation sector continues to grow in size and complexity, funds are increasingly looking to attract and retain top-performing executives from banking and funds management.

Accordingly, more non-profit funds are now offering top executives remuneration packages that incorporate incentives. This strategy is not without controversy and funds are under pressure to prove the remuneration structures they use do, in fact, help them employ the best talent and produce the best outcomes for their members.

investmentmagazine.com.au

The 2018 Investment Magazine Super Fund Salary Survey confirms that at least 20 of the 50 largest non-profit funds offer a bonus scheme to their chief executive, while at least 22 of the 50 largest funds have a bonus scheme for the chief investment officer.

We use the qualifier “at least” because the survey includes a number of government funds that do not disclose whether bonuses are applicable.

The Investment Magazine Super Fund Salary Survey is now in its fourth year.

It reflects remuneration information for the financial year ended June 30, 2017.

The survey includes the 44 largest nonprofit licensed super funds, based on Australian Prudential Regulation Authority data for the period, and the country’s six largest government pension funds.

The survey does not include bank-owned or other for-profit super funds because the regulator does not require them to disclose comparable data.

The Future Fund’s David Neal topped the list of highest-paid CEOs in the survey, earning $1.26 million, while the highestpaid CIO was UniSuper’s John Pearce, on $1.43 million. The most handsomely paid chair in the sector was again TWUSUPER’s David Galbally, on $277,200.

CIO BONUSES THE NORM As the individuals responsible for investment performance, CIOs are routinely the best-paid employees within super funds.

The 2018 Super Fund Salary Survey showed UniSuper CIO Pearce was not only the highest-paid employee of his fund, but also the highest earner in the survey, making $1,433,738. His remuneration reflects the myriad complexities of running a combination of defined benefit and defined contribution funds, and managing more than half of the $61.6 billion fund’s assets internally.

In 2016-17, UniSuper changed the variable component of its CIO’s total available remuneration (TAR), increasing his maximum potential bonus from 100 per cent to 120 per cent of his base pay. Pearce’s base salary of $589,480 was augmented by a $724,517 short-term incentive payment, superannuation contributions of just

FEBRUARY 2018

07

08

\ E VERY INCENTIVE CHIEF INVESTMENT OFFICER

FUND UniSuper AustralianSuper Commonwealth Superannuation Corporation Future Fund QSuper Sunsuper First State Super Equip Super Hostplus Mine Wealth + Wellbeing NSW Treasury Corporation (TCorp) Cbus Super Qantas Super Statewide Super TelstraSuper HESTA Super Local Government Super Maritime Super BUSSQ Australian Catholic Superannuation Catholic Super Kinetic Super Vision Super Equip Super CareSuper Energy Industries Superannuation Scheme TWUSUPER Labour Union Co-Operative Retirement Fund NGS Super Club Plus Super legalsuper MTAA Super Commonwealth Bank Officers Super REST Industry Super VicSuper Energy Super AustSafe Super WA Super Prime Super GESB Australia Post Superannuation Scheme Tasplan Commonwealth Bank Group Super Funds SA Victorian Funds Management Corporation AvSuper Media Super LGIAsuper First Super Intrust Super

FUM ($bn) 62 119 38 134 94 45 64 14 24 11 84 40 7 8 20 40 11 5 4 8 9 4 8 14 16 5 5 6 8 3 3 11 10 45 19 7 2 3 4 25 7 7 10 29 56 2 5 11 3 2

CIO OR EQUIVALENT ROLE John Pearce Mark Delaney Alison Tarditi Raphael Arndt Brad Holzberger Ian Patrick Damian Graham Michael Strachan Sam Sicilia David Bell Stewart Brentnall Kristian Fok Andrew Spence Con Michalakis Graeme Miller Sonya Sawtell-Rickson Craig Turnbull Grant Harslett David O'Sullivan Michael Block Garrie Lette Paul Kessell Michael Wyrsch Troy Rieck Suzanne Branton Ross Etherington Andrew Killen Leigh Gavin Ben Squires Gemma Dooley Ed Smith Philip Brown Gerard Parlevliet Brendan Casey Andrew Howard William Graus Simon Mather Chris West Jane Kang Benjamin Palmer Ezinne Udeh Martinez Ian Lundy Ruwanie Dias Richard Friend Russell Clarke Sue Field No CIO No CIO No CIO No CIO

BASE REMUNERATION ($) 589,480 680,890 624,741 568,421 504,141 405,740 391,657 77,157 538,949 338,825 502,115 399,000 399,314 433,846 441,965 414,257 369,891 345,828 396,556 372,066 322,262 350,979 278,779 335,117 328,383 313,645 319,692 277,845 224,017 275,000 244,455 151,335 189,462 222,507 181,639 196,477 155,096 151,410 170,399 85,254 97,576 62,433 312,000 -

STI ($) 724,517 714,890 556,389 556,334 442,048 453,076 500,423 151,741 56,544 189,525 105,000 50,000 24,693 31,963 75,000 42,500 34,332 16,665 9742 32,726 20,000 8000 -

LTI ($) 230,205 467 -

TOTAL REMUNERATION ($) 1,433,738 1,430,780 1,214,478 1,144,375 994,439 957,730 903,522 794,9721 730,185 683,193 670,9002 618,082 588,525 525,636 512,692 469,911 453,611 435,113 429,811 427,913 407,066 387,876 383,372 373,395 3 366,425 358,383 356,486 350,000 307,845 287,799 275,000 273,352 254,799 4 251,194 5 235,385 230,594 220,194 181,765 176,840 170,399 132,364 123,384 85,224 6 Not disclosed Not disclosed Not disclosed Not disclosed 400,000 Not disclosed Not disclosed

Notes: 1. Retired on July 15, 2016; total remuneration includes $644,259 termination payment 2. Average remuneration of five highest-paid TCorp executives disclosed in annual report 3. Appointed July 15, 2016 4. Retired March 17, 2017 5. Appointed November 1, 2016 6. Appointed March 20, 2017 Source: Super fund annual reports, remuneration reports and websites. All data is for the financial year ended June 2017.

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E VERY INCENTIVE \

to the fund meeting its aim of a return of at least Consumer Price Index (CPI) plus 4.5 per cent over rolling three-year periods.

At QSuper, CIO Brad Holzberger’s short-term cash incentive payment represented about 72 per cent of total variable remuneration available to him, which the fund’s remuneration report states is assessed against “long-term absolute investment return targets and thresholds which are set by the board within approved risk tolerances”.

Holzberger’s $994,439 total remuneration ranked him fifth among fund CIOs. His total remuneration comprised base pay of $504,141, a short-term cash incentive of $442,048, and other benefits, including superannuation and long-service leave, totalling $48,250.

PERFORMANCE MATTERS CHART 1 | 3-YEAR RETURN V CIO SALARY

16% 14%

3-YEAR RETURN

12% 10% 8% 6% 4% 2% 0%

0

200,000

400,000

600,000

800,000 1,000,000 1,200,000 1,400,000 1,600,000

CIO ANNUAL SALARY ($)

over $100,000 and a long-service leave payment of $19,529.

AustralianSuper CIO Mark Delaney’s take-home pay was just shy of Pearce’s, at $1,430,780, after his base of $680,890 was supplemented with a performance-based variable component of $714,890, and superannuation contributions of $35,000.

AustralianSuper is building its internal investment team and already manages roughly $28 billion of its total assets internally.

It is notable that the two highest-paid CIOs run big and growing internal teams that save members many millions of dollars in external fee payments each year.

MORE AT RISK UniSuper executive manager of people and member services, Lee Scales, says key executives should have some remuneration at risk, linked to fund performance, to align them with members’ interests; however, she says some funds “continue to have no ‘at-risk’ component, but appear to be paying their executives at similar levels to those with an ‘at-risk’ component”.

“This means there’s no scope to move the dial on salary commitment for performance variation,” Scales says. “We believe having a portion of our executives’ remuneration that is variable and aligned to fund performance is more appropriate than having their entire compensation package fixed, and therefore not responsive to performance that benefits members.”

The third highest-paid CIO came from the $38 billion default fund for federal public servants. Commonwealth Superannuation Corporation (CSC) rewarded CIO Alison Tarditi with total remuneration of $1,214,478. Tarditi’s base salary of $624,741 was supplemented by $556,389 of short-term cash profit-sharing and other bonuses, plus benefits including superannuation.

Future Fund CIO Raphael Arndt’s base salary of $568,421 was pumped up with a $556,334 payment under the Future Fund’s performance-related payment (PRP) plan, which incorporates assessments of both an individual’s personal performance and investment performance.

Up to 70 per cent of Arndt’s potential performance pay is tied

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WORKING FOR IT This year, for the first time, Investment Magazine attempted to compare the top executives’ remuneration, relative to fund size and performance.

For CIOs, this meant examining their annual remuneration relative to the investment performance of their fund’s balanced option, as measured by net returns over the three years to June 30, 2017.

The comparison showed little correlation between how much a fund’s CIO was paid and the return they generated for members.

In Chart 1, dots above the trend line indicate funds where CIO pay was below average, relative to performance. On this very crude measure, Statewide Super CIO Con Michalakis could be said to represent the best value for money relative to his $525,636 total remuneration, which included $105,000 in short-term incentives; however, attempting to draw conclusions from this analysis is fraught. If, for example, a bonus is earned in a year when a fund generates good returns, but paid in a subsequent year when the fund produced poorer performance, this metric can under- or over-state the ‘value’ of the individual in question in the period the bonus is paid.

Also, markets have been relatively benign over the period and CIOs tend to show their greatest worth in periods of market turmoil, when skills such as risk management and effective diversification come to the fore.

CARROTS FOR CEOs An increasing number of fund chief executives are also now eligible for bonuses as part of their remuneration plan.

The same PRP that lifted Future Fund CIO Arndt’s base rate also substantially boosted fund chief Neal’s total remuneration, making him the highest-paid CEO in the survey.

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09

10

\ E VERY INCENTIVE CHIEF EXECUTIVES

FUND Future Fund Local Government Super Victorian Funds Management Corporation QSuper Sunsuper AustralianSuper Hostplus First State Super WA Super Statewide Super UniSuper CareSuper Mine Wealth + Wellbeing TelstraSuper Commonwealth Superannuation Corporation NSW Treasury Corporation (TCorp) REST Industry Super VicSuper Cbus Super Qantas Super Club Plus Super HESTA Super Energy Industries Superannuation Scheme Maritime Super LGIAsuper Commonwealth Bank Group Super Vision Super Australian Catholic Superannuation NGS Super Tasplan Australia Post Superannuation Scheme Prime Super Intrust Super Funds SA Catholic Super AustSafe Super legalsuper Energy Super MTAA Super GESB AvSuper Equip Super Labour Union Co-Operative Retirement Fund BUSSQ First Super TWUSUPER Media Super Kinetic Super

FUM ($bn) 134 11 56 94 45 119 24 64 3 3 8 62 16 11 20 38 84 45 19 40 7 3 3 40 5 5 11 10 8 8 8 7 7 4 2 29 9 2 3 7 11 25 2 14 6 4 3 5 5 4

CEO David Neal Peter Lambert Lisa Gray Michael Pennisi Scott Hartley Ian Silk David Elia Michael Dwyer John McNally Fabian Ross Richard Nunn Kevin O'Sullivan Julie Lander Harry Mitchell Chris Davies Peter Carrigy-Ryan David Deverall Damian Hill Michael Dundon David Atkin Michael Clancy Paul Cahill Stefan Strano (acting) Debby Blakey Alexander Hutchison Peter Robertson David Todd Doug Carmichael Stephen Rowe Greg Cantor Anthony Rodwell-Ball Wayne Davy Stephen Milburn-Pyle Lachlan Baird Brendan O’Farrell Jo Townsend Frank Pegan Craig Stevens Andrew Proebstl Robyn Petrou Leeanne Turner Howard Rosario Benjamin Palmer Michelle Wade Nicholas Vamvakas Charlie Donnelly Linda Vickers William Watson Frank Sandy Graeme Russell Katherine Kaspar

BASE REMUNERATION ($) 613,608 436,115 540,000 - 549,999 519,565 560,603 824,100 637,838 740,000 412,851 135,669 517,364 512,557 479,134 474,964 469,174 452,622 490,891 523,054 589,231 400,000 213,322 245,662 551,424 515,593 503,301 455,000 277,758 500,500 492,377 491,521 467,492 337,788 380,044 434,498 439,235 337,612 439,777 341,550 375,991 421,707

STI ($) 610,605 332,598 266,007 10,000 225,000 139,064 147,660 112,544 93,953 220,000 99,608 20,875 54,442 37,656 -

LTI ($) 28,410 197,076 150,000 111,903 17,885 -

TOTAL REMUNERATION ($) 1,256,011 1,120,3961 950,000 - 959,9992 985,273 938,992 887,142 874,409 802,047 800,958 152,212 773,992 771,744 716,490 697,984 690,387 688,159 670,9003 664,145 661,457 649,884 620,000 597,013 268,767 585,653 584,142 566,357 561,000 555,465 544,213 529,487 526,521 487,108 486,574 481,719 479,498 467,000-477,000 4 474,235 451,602 439,777 428,343 423,759 421,707

367,888 285,836 341,731 265,919 312,845 300,881 316,803 252,326

18,250 72,915 13,664 -

-

421,087 378,367 376,731 363,988 361,537 340,575 337,577 280,004

Notes: 1. Retired April 27, 2017; includes termination payment of $664,281 2. Highest-paid “responsible person” disclosed in annual report 3. Average remuneration of five highest-paid TCorp executives disclosed in annual report 4. Highest-paid executive disclosed in annual report Source: Super fund annual reports, remuneration reports and websites. All data is for the financial year ended June 2017.

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Neal’s base of $613,608 was supplemented with $610,605 in 2016-17, of which $413,111 was attributable to meeting investment performance targets – measured over rolling three-year periods – and $197,494 was for meeting personal performance targets.

The Future Fund provides that Neal may earn up to 120 per cent of his base pay through the various components of the PRP, and in 2016-17, he earned about 80 per cent of the total amount available.

Local Government Super chief Peter Lambert left the fund in April 2017 and made an unexpected entry into the top five in this year’s survey, after receiving a termination payment of $644,281 on top of his base pay of $436,115. The year before, Lambert’s total remuneration was $552,648, placing him 19th overall, at a level more commensurate with running a $10.5 billion fund.

Victorian Funds Management Corporation chief executive Lisa Gray received total remuneration of between $950,000 and $959,999 for the year, with a base salary between $540,000 and $549,999. While VFMC’s annual report doesn’t detail additional payments, it states that the board determines an incentive pool each year, based on annual investment returns, which is distributed among executives. QSuper’s Michael Pennisi received a short-term cash incentive payment of $332,598 (of which $66,625 is deferred for two years) and a long-term incentive payment of $28,410, plus other benefits, including

The point about very measurable targets is that it’s not just becoming a backdoor way to getting additional fixed pay

superannuation and long-service leave.

All this was on top of his base pay of $519,565, for a total package of $985,273.

“Given the complex nature of the QSuper group – including a wholly owned group life insurance business, a personal financial advice firm and mortgage broking services, and our in-house investment team and administration – the board seeks to ensure that the team is remunerated in line with the market,” QSuper remuneration committee chair Beth Mohle says.

Mohle explains that the fund’s executives are “subject to clear performance criteria relating to customer, member, people and risk perspectives, and remuneration includes a mix of fixed and variable payments explicitly linked to this performance”.

Over at Sunsuper, bonus payments and superannuation, including voluntary contributions, took chief executive Scott Hartley’s total remuneration to $938,992, including his base salary of $560,603 and a performance bonus, including superannuation, totalling $301,918.

Three-quarters of that bonus will be paid in 2017-18, and one-quarter not until

SIZE MATTERS CHART 2 | FUM V CEO SALARY

120,000

FUM ($M) 2017

100,000 80,000 60,000 40,000 20,000 0

2018-19. A component of Hartley’s bonus reflected in the current survey was earned for his performance in 2015-16.

Over at the country’s largest industry fund, AustralianSuper, Ian Silk was the sixth-highest paid chief executive in the survey, earning a total of $887,142.

Chart 2 shows analysis by Investment Magazine that plots CEO pay relative to fund size, as measured by funds under management. Those dots above the trend line indicate funds where pay was below average relative to fund size.

Silk stands out as the best ‘value’ chief on this measure.

And unlike his deputy, Delaney, and other senior members of the AustralianSuper investment team, Silk was not incentivised with a bonus scheme.

AustralianSuper general manager of people and culture Margie Hill says performance-related pay structures must have clear targets, be available to the right staff, and not be too complicated.

“What’s good for Ian is good for many others [in the organisation] as well,” Hill says. “We pay very competitive fixed remuneration, of course, or else we wouldn’t attract and retain people.

But we have a strong philosophy of not paying performance-based incentives.”

But perhaps the best test of a performance-pay scheme is not when bonuses are paid, but rather, when they are not paid. Hill says that in 2011-12, AustralianSuper paid out zero under its investment performance payment plan, after the fund failed to meet the target of exceeding the rate of inflation.

“Unlike other organisations, where there might be a bit of healthy fudging, it’s quite black-and-white here,” Hill says.

“That’s the point about very measurable targets; it’s not just becoming a backdoor way to getting additional fixed pay, it’s very much about performance-driven pay.”

THE RIGHT INCENTIVES 0

200,000

400,000

600,000

800,000

CEO ANNUAL SALARY ($) 2017

investmentmagazine.com.au

100,000

120,000

Across the industry, funds are grappling with how to design incentive structures

FEBRUARY 2018

11

12

\ E VERY INCENTIVE CHAIR

FUND TWUSUPER TelstraSuper UniSuper Future Fund REST Industry Super AustralianSuper First State Super HESTA Super Mine Wealth + Wellbeing Hostplus Cbus Super Qantas Super MTAA Super Commmonwealth Superannuation Corporation Equip Super Victorian Funds Management Corporation Kinetic Super LGIAsuper Vision Super Club Plus Super GESB Sunsuper AustSafe Super Statewide Super Australia Post Superannuation Scheme CareSuper Maritime Super Labour Union Co-Operative Retirement Fund Tasplan QSuper Commonwealth Bank Group Super Funds SA legalsuper Catholic Super WA Super VicSuper NGS Super Prime Super Energy Super First Super AvSuper BUSSQ Local Government Super Energy Industries Superannuation Scheme Media Super Australian Catholic Superannuation Intrust Super NSW Treasury Corporation (TCorp)

FUM ($bn) 5 20 62 134 45 119 64 40 11 24 40 7 11 38 14 56 4 11 8 3 25 45 2 8 7 16 5 6 7 94 10 29 3 9 3 19 8 4 7 3 3 2 4 11 5 5 8 2 84

CHAIR David Galbally David Leggo Christopher Cuffe Peter Costello Kenneth Marshman Heather Ridout Neil Cochrane Angela Emslie Grahame Kelly David Elmslie Steve Bracks Anne Ward John Brumby Patricia Cross Andrew Fairley James MacKenzie Frank Gullone John Smith Brian Parkinson Tara Moriarty John Langoulant Ben Swan Henry Smerdon Ken Williams Mark Birrell Catherine Wood Paddy Crumlin Tim Kennedy Naomi Edwards Karl Morris Neil Cochrane Kevin Foley David Miles Peter Bugden Tim Shanahan Christine Stewart Dick Shearman Alan Bowman Mark Williamson Lisa Marty Michael O’Connor George Fishlock Bob Lette Bruce Miller Stephen Butler Gerard Noonan Richard Haddock Gary Bullock Philip Chronican

BASE REMUNERATION ($) 181,029 202,922 206,330 185,388 175,495 176,198 165,818 177,350 135,826 144,971 109,589 137,542 132,680 131,273 119,000 95,000 116,912 111,977 126,728 111,271 103,345 98,183 107,210 97,824 105,913 88,951 94,087 91,424 98,974 63,610 89,493 86,817 83,203 79,569 74,695 76,589 74,525 75,887 75,223 74,237 71,460 69,105 60,091 31,750 -

TOTAL REMUNERATION ($) 277,200 226,097 222,200 206,330 203,000 192,167 188,904 181,571 177,350 165,695 158,743 158,252 150,608 145,654 143,744 130,000 - 139,0001 132,685 130,000 128,018 127,542 126,728 126,158 113,163 107,632 107,210 107,117 105,913 103,401 103,025 102,904 100,109 90,000 - 99,000 98,974 98,550 97,999 95,065 93,187 87,128 85,237 85,227 79,669 83,096 82,370 81,290 78,249 75,670 65,800 31,750 Not disclosed

Note: 1. Second-highest-paid “responsible person” disclosed in annual report 2. In all pay tables, remuneration beyond base pay may include bonuses, non-cash benefits, deferred cash benefits, super, and miscellaneous payments such as training fees and reimbursement of travel expenses or health and wellbeing expenses.

Source: Super fund annual reports, remuneration reports and websites. All data is for the financial year ended June 2017.

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E VERY INCENTIVE \

13

CHAIR PAY The chairs in the survey earn nothing like the salaries of the top executives they govern.

TWUSUPER chair David Galbally again topped the list of highest-paid chairs, earning $277,200 for the year, despite the fund being one of the least complex and smallest in the survey, with less than $5 billion in funds under management.

Galbally’s remuneration was unchanged from the previous year, and again paid to Madgwicks Lawyers, a legal firm where he is a partner.

Despite TWUSUPER being just 3.6 per cent the size of the $134 billion Future Fund, Galbally’s fee was more than 25 per cent higher than the $206,330 the sovereign wealth fund paid its chair, Peter Costello (in third place). Similarly, even though TWUSUPER is about 4 per cent the size of AustralianSuper, Galbally made more than 44 per cent above the $192,167 earned by its chair, Heather Ridout.

A written statement provided by TWUSUPER chief executive Frank Sandy said Galbally’s fee was “commensurate with his role as an independent chair” and acknowledged the “considerable time, effort and expertise” associated with the role.

David Leggo was the second highest-paid chair, earning $226,097 at $20 billion corporate fund TelstraSuper. That’s more than the $203,000 $45 billion fund REST Industry Super paid to its chair, Ken Marshman (the fifth highest-paid chair in the survey).

Until 2013, the directors of REST were paid nothing except out-of-pocket expenses, but since 2014, director remuneration has been calculated according to the complexity and depth of each director’s individual involvement with the board and its committees. REST directors’ remuneration is due to be reviewed again this year.

that get the most out of executives and deliver the best outcomes to members.

In 2017, Mine Wealth + Wellbeing – one of the earliest industry funds to adopt performance pay for a significant number of positions – decided to partially unwind its scheme and ditch bonuses for all but nine senior executives, including CEO Harry Mitchell, CIO David Bell and chief strategy officer Vasyl Nair.

Nair says a review of the fund’s strategic goals led to an evaluation of the remuneration structure and the decision to consolidate fixed remuneration with variable remuneration for most of those who participated in the variable pay scheme. Consolidating the variable component at 100 per cent meant no employee was worse off as a result; however, none of the team of nine who still receive variable pay emerged better off either.

The fund also enhanced its performance management framework, to mitigate the removal of variable remuneration as a blunt instrument to drive performance.

While it’s early days, Nair says “a robust performance framework, in our view, more than counteracts the effect of not having a variable remuneration lever”.

Basically, he argues the mid-sized fund needed a remuneration plan that was less complicated and easier to administer.

Meanwhile, Cbus Super is heading in

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the opposite direction. The fund is expanding the scale and complexity of its incentives program to include more members of its growing investments team.

Cbus CIO Kristian Fok says the $40 billion construction industry fund has recently introduced a variable pay structure for a limited number of investment staff to help it attract and retain the best talent.

While variable pay is “designed to drive successful outcomes for members”, he says it is still too soon to tell what impact it will have in practice.

The incentive scheme won’t be based only on investment returns.

“Key factors in the design of our program include a heavy focus on positive behaviours consistent with Cbus’ values and member-focused culture, fostering a shared responsibility for total portfolio outcomes, and an alignment with longerterm investing principles,” Fok explains.

“When developing our variable pay program, we established appropriate measurement tools and, where possible, we have tried to keep the assessment criteria simple. Any payments earned from the program are spread over a three-year period.”

LOOKING AHEAD It seems clear that incentive payments will only become a more common feature of super fund executive pay.

Profit-for-members funds will probably make mistakes along the way, and could import poor culture

Executive recruitment firm Alexander Hughes’ managing partner, Asia-Pacific, Michael Swinsburg, says fund executives will, and should, continue to be rewarded for producing good results for members, but funds are still grappling with how to structure incentives to reward appropriate behaviour and performance without compromising a member-first ethos.

“I don’t see bonuses in some shape or form going away,” Swinsburg says.

“I expect these to become more targeted, over time, to longer-term, three-years-plustype programs, particularly for senior executives.”

As they continue to build out expertise, “profit-for-members funds will probably make mistakes along the way, and could import poor culture”, he says. “But as long as they are looking to build more sustainable, high-functioning teams [rather than] squeeze in glamour individuals, which would be anathema to their culture anyway, then they should be on the right track.”

JANA executive director John Coombe says it’s still difficult to prove conclusively that performance-based remuneration leads invariably to better member outcomes.

“I don’t think you can,” Coombe says.

“You would have to know all of the details [of a remuneration scheme] and you would have to monitor it over an extended period of time.”

He says a portion of executive pay should be deferred over at least three to five years or longer, to reflect a typical market cycle and tie executive remuneration more closely to longer-term member outcomes.

And he adds that while funds do discuss performance-based remuneration among themselves informally, there is still inconsistency and disclosure needs to be addressed if funds are to make their case conclusively.

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\ SPONSORED ROUNDTABLE

AN INVESTMENT MAGAZINE ROUNDTABLE, sponsored by AIA AUSTRALIA

EARLY INTERVENTION IS

key

By Sally Rose + Photos Christopher Pearce

THERE’S A STRONG LINK between good work and good mental health, supporting the argument that more people need rehabilitation sooner – and group insurance can help.

AT THE LATEST in a series of roundtables to support best practice for mental health in the group insurance sector, hosted by Investment Magazine and supported by AIA Australia, 13 experts turned their minds to how to improve access to early intervention and rehabilitation services.

All agreed there is an undeniable link between early access to rehabilitation and the likelihood of claimants getting back to work sooner and achieving better mental health outcomes.

“I’m a big fan of work, I think it has a hugely restorative effect in bringing a sense of human satisfaction and selfesteem that is very important,” Association of Superannuation Funds of Australia chief executive Martin Fahy said.

This is particularly important because super funds and their insurers are witnessing a rising incidence of secondary mental health claims for people who have been injured and/or out of work.

GROWING ISSUE Financial Services Council chief executive Sally Loane said that while comprehensive data is not available, it is estimated that about 40 per cent of all claims lodged across the broader life insurance sector

now have a mental health component.

“One-in-four Australians will be touched in some way by mental illness at some point in their lives, so it is an absolutely massive issue,” Loane said.

Cbus Super head of insurance Noel Lacey said mental health-related issues now ranked as the second most common secondary cause sighted in disability claims lodged by the construction industry fund’s members. “It’s very common among people who go off work initially for some other issue and then don’t get the right help to recover,” Lacey said.

At Comcare, the agency that manages workers’ compensation claims for Commonwealth Government employees, the incidence of mental health-related claims has gone down in recent years; nevertheless, the persistent nature of psychological injuries means the overall cost related to them keeps rising.

“Around 7 per cent of our claims are related to psychological injury but they account for 28 per cent of our costs, which is really disproportionate,” Comcare mental health program lead Kevin St Mart said.

“We’re finding that, over time, about 50 per cent of psychological injury claims will involve at least 26 weeks off work.”

DAMIEN MU AIA Australia & New Zealand

LUCY BROGDEN National Mental Health Commission

Over $1.3b in claims paid during 2017.

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SPONSORED ROUNDTABLE \

For that reason, exploring how to support earlier rehabilitation is a “major focus” for the organisation, he said.

AIA Australia chief group insurance officer Stephanie Phillips said mental health claims were commonly lodged after people had been out of the workforce for a long time, often following illness or injury.

“We know the longer that someone is off work, the harder it is to get back,” Phillips said.

That is why promoting early intervention and access to rehabilitation services is so important, she argued.

“If someone’s off work for 70 days, they’ve got a 35 per cent chance of going back, so after a year they’ve got a very slim chance of getting back,” she said.

“The benefits of being able to intervene much earlier with occupational rehabilitation, or even a wellness initiative, would be really great.”

AIA Australia’s RESTORETM program − a wellness and work-readiness program available to its group insurance clients’ members – highlights the benefits of simply helping people become more active and connected to society, Phillips said.

CHANGE THE L AW All of the industry representatives at the roundtable called for reform of the regulatory barriers that prevent rehabilitation from playing a greater role in group insurance.

Berrill & Watson principal John Berrill is a consumer lawyer who has been helping clients with insurance claims for more than 25 years.

He is a vocal advocate for legislative reform to make it easier for super funds and their insurers to provide access to early medical intervention and rehabilitation services via group insurance policies.

“The sole purpose test within the Superannuation Industry Supervision Act

makes it very difficult, so there is a need for legislative change,” Berrill said.

The two main regulatory obstacles in super are: the conflict between the sole or ancillary purpose test for use of superannuation money to pay for medical expenses, and the definition of ‘total permanent disability’ (TPD) that does not allow for rehabilitation.

The FSC’s Life Insurance Working Group and the Insurance in Superannuation Industry Working Group have both been examining the case for change.

AIA Australia and New Zealand chief executive Damien Mu said that while protecting member balances against unnecessary balance erosion was important, the preclusion of certain rehabilitation services on the grounds of concerns about costs was “just irrational”.

“We have to come together and get this change done,” Mu said.

Another obstacle to achieving best practice around early intervention and

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MARGO LYDON SuperFriend

NOEL LACEY Cbus Super

KEVIN ST MART Comcare

SALLY LOANE Financial Services Council

rehabilitation is the sheer complexity of the multiple health, mental health and insurance frameworks that individuals are dealing with.

Many people who eventually qualify for a TPD payout via group insurance have already interacted with other schemes, such as workers’ compensation, compulsory third-party insurance, health insurance, Centrelink or the disability support pension.

Loane said the overlapping of agencies and different types of insurances needed to be better mapped and understood to help reduce “gross inefficiencies” in the delivery of services.

Victorian Senator Jane Hume said the Turnbull Government had a focus on mental health filtering through many different portfolios, most obviously health and social services, but also in areas such as Treasury. She promised to listen to the industry experts and report back to her colleagues in Canberra on ideas that might lead to better functioning policy.

National Mental Health Commission co-chair Lucy Brogden noted OECD figures show the costs associated with mental

health account for roughly 4 per cent of GDP.

STEPHANIE PHILLIPS AIA Australia

INNOVATE NOW Any reform of the rules around the role of rehabilitation within group insurance would throw up new challenges for the industry.

SuperFriend chief executive Margo Lydon said that if the industry were successful in lobbying the government for the right to provide early intervention services, it would be incumbent upon it to do so, and not drag people through a three- to six-month waiting process.

“I’d love to see an industry-wide practice of pay first, ask questions later,” Lydon said.

Mental Health Australia chief executive Frank Quinlan warned that if the law was amended to allow group insurers to fund early intervention and rehabilitation services, the industry would still face a huge challenge in delivering it.

“Frankly, we have relatively poor information about how to take any one cohort and provide them with effective psycho-social support,” Quinlan said.

FRANK QUINLAN Mental Health Australia

Over $1.3b in claims paid during 2017.

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SP ONSORED ROUNDTABLE \

He called for more cross-sector data-sharing and collaboration to promote best practice.

Sunsuper is one super fund that has already innovated within the constraints of the current laws, with the introduction of its TPD Assist program. Under this product, claimants typically receive incremental payments each year, rather than a lump sum.

“TPD Assist is very much about early intervention, rehabilitation and looking at how we can best help people get back to work,” Sunsuper executive general manager Teifi Whatley said. “And while it’s early days, we are starting to see some very promising results come out the program. It’s something we are absolutely committed to continuing and learning from with our partners at AIA.” But Whatley acknowledged the current legislation presented some serious roadblocks. “We can assist them [members] with retraining but not in terms of medical expenses, and they go hand-in-hand, so it is half a solution,” she said.

WORK WITH EMPLOYERS Perhaps the strongest lead indicator funds have of when a member might be off work, and headed toward making an income protection or TPD claim via their group insurance, is when their employer fails to make a quarterly contribution on their behalf.

The gathering agreed on the need for funds and insurers to strengthen their engagement with employers, both in terms of encouraging earlier notification of issues that might lead to claims and in promoting mentally healthy workplaces.

Lydon said she saw a big role for super funds and group insurers to play in educating employers and medical professionals about the benefits of recovery at work.

The Mental Health Commission’s Brogden noted there was a reticence among many big employers to invest too much time and energy in helping employees suffering from mental health conditions get back to work.

“We consistently hear the feedback that it’s easier to pay someone to go away than bring them back,” Brogden said.

She suggested it would be great to see corporate boards demand more comprehensive measurement and reporting of how companies manage the challenge of getting staff on claim back to work.

Mu agreed. “It’s no longer good enough just to get a return on capital; there’s a social licence to operate that employers have to consider,” he said.

ENGAGE MEMBERS Along with strengthening its engagement with employers, the group-insurance sector can improve how it communicates with members directly.

REST Industry Super head of member services, Amelia Butler, is leading a ‘claims transformation’ project at the fund, which has more than 2 million members.

She said better data systems and processes were being implemented to make it easier to communicate with members earlier and ensure new members know what they are entitled to under their insurance at the time of joining the fund.

“On a personal level, I really believe there is a bigger role for superannuation funds and employers to play in advocating for mental health and wellness,” Butler said.

St Mart said Comcare’s experience had shown how digital communication tools were successful in facilitating earlier conversations with claimants, leading to better outcomes.

Loane predicted technology and digital communication strategies would be key to funds improving their member engagement, making early intervention easier.

“Millennials are not going to read a letter from a super fund,” she said. “You’ve got to talk to them on Facebook or wherever they are. Our sector has simply got to embrace new digital technologies.”

Mu said it was cause for optimism that new technologies now made it much more economical for funds to engage regularly with members. “It used to cost a million dollars to send everyone in a fund a letter,” he said. “Now they are all on the app.”

PA R T I C I PA N T S JOHN BERRILL Principal, Berrill & Watson LUCY BROGDEN Co-chair, National Mental Health Commission AMELIA BUTLER Head of member services, REST Industry Super MARTIN FAHY Chief executive, Association of Superannuation Funds of Australia JANE HUME Senator for Victoria NOEL LACEY Head of insurance, Cbus Super SALLY LOANE Chief executive, Financial Services Council MARGO LYDON Chief executive, SuperFriend DAMIEN MU Chief executive, AIA Australia and New Zealand STEPHANIE PHILLIPS Chief group insurance officer, AIA Australia FRANK QUINLAN Chief executive, Mental Health Australia KEVIN ST MART Mental health program lead, Comcare TEIFI WHATLEY Executive general manager, Sunsuper

CH A IR SALLY ROSE Editor, Investment Magazine

Please see “A role for rehab in goup insurance”, p29.

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\ CHAIR’S SE AT

Edited by Sally Rose + Photos Matthew Fatches

TALENT on TASK In this Q&A with INVESTMENT MAGAZINE, REST Industry Super chair Ken Marshman shares his insights into what remains constant for boards amid so much change, and the challenges he sees ahead for the $50 billion fund under new chief executive Vicki Doyle.

Q: WHAT IS YOUR BEST PIECE OF ADVICE FOR HOW TO CHAIR A CONSTRUCTIVE BOARD MEETING? A: In my early life, I played and umpired a lot of hockey matches. There are several secrets to good umpiring: realising that the game is not about you; giving clear and decisive signals; and always being consistent. These are great parallels for overseeing good board meetings.

Q: HOW HAVE YOUR VIEWS ABOUT WHAT MAKES A GOOD CHAIR CHANGED OVER THE YEARS? A: The adage is true, the more things change, the more they stay the same.

The industry is clearly more complex, more technical and more demanding than it was 20 years ago. But a good chair continues to draw out the talent – from around the table, from management and from experts in each field. The main task of the chair is to keep the whole organisation true to its core purpose. It has always been thus.

FEBRUARY 2018

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CHAIR’S SE AT \

Trustees are less likely to be familiar with the jargon, let alone the state of markets or the concepts of risk Q: WHAT IS YOUR TOP PIECE OF ADVICE TO INVESTMENT SPECIALISTS ABOUT HOW THEY COULD IMPROVE THEIR COMMUNICATIONS WITH SUPER FUND TRUSTEES?

Q: WHO HAVE BEEN YOUR MOST IMPORTANT MENTORS? WHOM DO YOU TURN TO FOR ADVICE NOW? A: As a former consultant, I had the privilege of serving, and learning from, many fine boards. It is hard to reduce my mentors to just a few, but outstanding individuals like Bill Kelty, Bernie Fraser and John Nolan are definitely on the list.

I have also benefited greatly from the board buddy system at REST, in which directors can share their concerns and challenges with another.

Q: HOW DO YOU MANAGE THE POTENTIAL CONFLICTS OF INTEREST THAT COME WITH BEING CHAIR OF REST INDUSTRY SUPER AND CHAIR OF ITS ASSET CONSULTANT JANA? A: Not a surprising question! REST and JANA each have clearly documented protocols to ensure that conflicts are identified and properly managed. In reality, there has been little overlap in duties. Board roles are largely strategic, meaning there is little, if any, overlap, day to day. Naturally, I remove myself from any commercial discussion involving JANA at the REST board and at JANA, I am isolated from all other JANA-client activities.

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A: What is bread-and-butter for the investment specialist is most likely a foreign subject for the typical super fund trustee. Trustees are less likely to be familiar with the jargon, let alone the state of markets or the concepts of risk. Trustees, if unsure, will naturally be more defensive, which might ultimately cost members of the fund. So, my advice is to speak in simple language, explain recommendations in terms of potential risk outcomes, and always, always understand the true purpose and objectives of the fund.

Q: WHAT IS THE MOST VALUABLE

PROFESSIONAL DEVELOPMENT OR TRAINING YOU HAVE DONE THAT HAS HELPED YOU BECOME A BET TER CHAIR? A: Coming to the board, there were many gaps in my knowledge relevant to the activities of REST. In my case, these included insurance and technology.

Participation in specialist conferences has helped me not just get the jargon, but also accelerate my understanding of the industry’s challenges. I strongly recommend the same approach to others.

Q: ANY INTERESTING PROJECTS

THE REST BOARD IS WORKING ON AT THE MOMENT YOU CAN TELL US A LIT TLE ABOUT? A: Our goals are to ensure that REST is a powerhouse of talent and that throughout the organisation we are flexible and adaptive. The fund is driving through the journey of digitisation. We want to ensure that our core competitive advantages – being the first fund many young Australians join and having great investment performance – are fully exploited for the benefit of members.

Q: YOU ARE AN INDEPENDENT CHAIR GOVERNING A REPRESENTATIVE BOARD. DO YOU FEEL THAT BOARD COMPOSITION MODEL WORKS WELL FOR REST? WHAT ARE THE PROS AND CONS? A: The track record speaks for itself.

Our directors represent members (either from employers or employees) at the board table and in their day job as well. So, the likelihood of the fund sticking to its primary purpose and achieving good outcomes is heightened. No one can deny it is the talent, motivation and willingness to work for an agreed purpose that determines outcomes, not background or lineage. Each fund needs to assess its own circumstances in light of this framework.

Q: REST L AUNCHED NEW GROUP INSURANCE ARRANGEMENTS ON DECEMBER 1, 2017. WHAT ARE THE BIGGEST CHALLENGES FOR THE FUND IN THIS SPACE? A: The vast majority of REST members would not be able to afford reasonable insurance coverage if it weren’t a basic part of their super. It’s a simple and clear fact. Convincing politicians and regulators of the enormous social good of insurance, particularly to young people who, sadly, are increasingly making claims for mental health and drug- or alcohol-related illnesses, is one of our biggest challenges.

Q: WHAT DO YOU EXPECT WILL BE THE BIGGEST STRATEGIC CHALLENGE FOR THE REST BOARD OVER THE NEXT 10 YEARS? A: I foresee two major challenges for the fund over the next decade. The first is ensuring that our members earn a decent return should interest rates rise from their century-low levels. This means not chasing the last cent of returns today at the risk of giving it all back tomorrow. That takes real courage. The second is responding maturely, in the best interests of members, in the event of a substantial change in the regulatory framework. It might be too easy for a board to forget its obligation to members in a new game of survival and growth. To lose that focus would be to lose our social licence to operate.

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\ COLUMN

LEAGUE TABLES

SHUN THE RATINGS RACKET First Super has opted out of providing its data to any of the research houses that produce fund league tables, and hopes more of its peers will do the same.

BILL WATSON CHIEF EXECUTIVE | FIRST SUPER

70 per cent allocation to growth assets would have rated as the top-performing balanced fund in one of the league tables, having returned 13.6 per cent.

Our 3- and 5-year returns would have us in the top 10.

The story as it relates to our other investment options is essentially the same.

PAY TO PL AY

AT A RECENT member information evening in Mt Gambier, some questions about how our fund had performed over the last year, and how we rated compared with our competitors, led to me explaining to members how the research house racket works.

First Super’s policy is not to supply our data to any of the research houses. This is not because we’ve anything to hide, but because it wouldn’t be a great use of member resources. Nor would spending member funds on paying to be assessed by these companies and then paying to use their awards logo on marketing collateral.

If we participated in the racket, the results wouldn’t be at all bad.

In fact, last financial year our investment option with a

In the past, when I was working at another fund, I once contacted a research company to ask why it had assessed us as being in the bottom half of funds when our net returns were in the top 25 per cent.

was a substantial fee attached to come and “get to know us”.

We paid the fee, got a ‘qualitative assessment’ and, lo and behold, got the upgrade.

Bonus for the research house, we then also paid to use their ratings logo. For them it was a gift that kept giving.

I used to be a butcher, and this whole process looked a lot like someone was putting their thumb on the scale.

WRONG CRITERIA Another difficultly I’ve got with the research houses is the opacity of their assessment processes.

I used to be a butcher, and this whole process looked a lot like someone was putting their thumb on the scale

Their answer was because they hadn’t completed an onsite assessment of us.

Naively, I asked them to come and do the assessment. It was at that stage that I was told there

FEBRUARY 2018

Sure, there are percentage weightings on some websites, but there’s no detail on criteria.

There’s too much subjectivity in the weighting or, as they put it, ‘qualitative factors’.

At least one research house doesn’t give great weight to past performance, on the basis that it is no indication of future performance. Well, track record, amongst other things, counts when assessing manager performance and it should for funds.

For most members, returns are what it’s all about, so that’s at the heart of why I think the ratings process sucks.

Then there are other things about the ratings racket that just don’t make sense.

Funds are marked down by one research house if they employ humans to answer the phones straight up, rather than leaving members wrestling with an interactive voice response system. There are plenty more examples of research houses deciding what’s good for members and their funds without any engagement with real people to find out what’s important to them.

OPAQUE DISCLOSURE Further, there is little upfront disclosure on the research house websites of the process they use for assessing funds and associated costs. All research houses should make it clear to consumers when some funds have paid to be assessed and those that haven’t paid have, in effect, been marked down.

Similarly, research houses should make it clear when not all funds are included, meaning their league tables don’t provide a complete picture.

As fund trustees work out how to implement the Australian Prudential Regulation Authority’s member outcomes test, I’d love to see more funds seriously consider whether participating in the ratings racket delivers on member outcomes.

investmentmagazine.com.au

SPONSORED CONTENT \ THIS REPORT IS sponsored by MFS INVESTMENT MANAGEMENT

A special blend

MFS Investment Management’s Blended Research strategy uses a research model that combines the best of complementary fundamental and quantitative approaches.

By Ben Hurley WITH THE CURRENT cycle showing signs of age, fiduciaries are heeding lessons learned during the global financial crisis and going on the hunt for investment strategies that can perform in different market environments.

In their search for alpha amid expectations for an extended period of low returns and heightened correlations, leading investors have recognised that fundamental and quantitative strategies have complementary strengths. Many are seeking to leverage the benefits of both by allocating two independent managers, one from each camp, within the same portfolio.

Screening for stocks that look attractive through both a fundamental and quantitative lens is a way to improve the active share ratio across the entire portfolio and prevent over-diversification.

And owning a single name that is simultaneously well rated by both processes results in a more optimal portfolio than holding two different stocks, one fundamental and one quant driven.

MFS Investment Management, a US$486 billion (AU$640 billion)* Boston-based funds management firm, systematically combines multiple alpha sources in a single strategy designed to be more cost-efficient and deliver better risk-adjusted performance.

The MFS Blended Research Global Equity Strategy has the benefits of an

actively managed strategy, with an 84 per cent active share, but also has controls to prevent biases, and can be customised to suit client risk parameters or social objectives. It also has lower fees than a more typical active portfolio.

LEARNING FROM HISTORY MFS analysis compared the annual returns of managers of large-cap US core equities from 1994 to 2016 in the eVestment Alliance database, using the median fundamental and quantitative managers as proxies for their investment styles.

With the caveat that past performance is not indicative of future results, the comparison found quantitative strategies were consistently more effective in low to moderate volatility and more challenged amid the high volatility of market inflection points. The reverse was true for fundamental strategies.

MFS portfolio manager Jonathan Sage says combining these two processes into a single, systematic strategy plays to these complementary strengths and potentially generates superior riskadjusted returns over a full market cycle or even over multiple cycles.

“At their core, fundamental and quantitative research processes look at the world a bit differently,” Sage says. “But they’re quite complementary because they look at things differently.”

BEST OF BOTH WORLDS In similar research covering the same time period, MFS evaluated stocks that were rated ‘buy’ or ‘sell’ by fundamental research, quantitative research or both.

The firm found that when both styles recommended a stock, there was a greater return potential than when the fundamental and quantitative signals did not overlap.

This phenomenon also held true on the short side; stocks not favoured by either approach showed the greatest likelihood of market underperformance.

To put these findings into action, MFS combines both disciplines into a single, blended active-return forecast for each constituent of a benchmark. Sage and his team then build portfolios around these blended return targets, assigning greater weight to names with a higher potential active return.

On the quantitative side, multi-factor stock selection models systematically appraise company financials and market trends; while on the fundamental side, analysts take a deeper dive into companies and industries.

A portfolio optimisation process aims to ensure no sizeable deviations from the respective benchmark’s region, sector, size or style. This allows the portfolio managers to add value with their stock selection skills. The objective is to deliver portfolios with active returns relative to a benchmark, and at the same time a tracking error of about 2 per cent.

MFS senior managing director and head of Australia and New Zealand, Marian Poirier, says that by incorporating a fundamental alpha signal in a more systematic way, the investment team can produce portfolios with moderate active risk but a higher active share – historically above 80 per cent.

“People often assume low tracking error means low active share, and here we’re showing that we can constrain region and sector but have active stock selection within those areas and have delivered a high active share,” Poirier says.

*Disclaimer: Source MFS as at 30 November 2017. This article is directed at investment professionals for general information use only with no consideration given to specific investment objective, financial situation and particular needs of any specific person. Investment involves risk. Past performance is not indicative of future performance.

investmentmagazine.com.au

FEBRUARY 2018

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\ SPONSORED ROUNDTABLE

AN INVESTMENT MAGAZINE ROUNDTABLE, sponsored by NORTHERN TRUST

MIDDLE - OFFICE

HYBRIDS

By Alexandra Cain + Photos Christopher Pearce

A recent gathering of industry experts explored how institutional investors are embracing a mix of insourcing and outsourcing for their operating models.

OUTSOURCE YOUR OPERATIONS, NOT YOUR PEACE OF MIND Learn more at www.northerntrust.com/operations ©2018 Northern Trust Corporation

SPONSORED ROUNDTABLE \

PA R T I C I PA N T S LOUNARDA DAVID Chief investment operations officer, Sunsuper JONATHAN GREEN General manager, investment implementation and operations, NSW Treasury Corporation (TCorp) PETER JORDAN Senior vice-president and head of global fund services, Asia-Pacific, Northern Trust ANDREW PROEBSTL Chief executive | legalsuper ROB PRUGUE Chief executive, head of Asia-Pacific, Lazard Asset Management Pacific (Sydney) EMMA ROBERTSON Head of investment operations, Vision Super SEAN RYAN Senior manager, investment platforms, AustralianSuper DAVID SARA General manager, operations, New Zealand Superannuation Fund ALI SHEIKH Senior vice-president and head of hedge fund services Asia-Pacific, Northern Trust

CH A IR SALLY ROSE Editor, Investment Magazine, Conexus Financial

LEADING INSTITUTIONAL INVESTORS are re-evaluating what the optimum operating model looks like. A growing number of funds are adopting a hybrid – with a combination of insourcing and outsourcing – across their investment management and investment operations functions.

Many asset owners are finding that even as they increase their internal investment capabilities, it makes sense to outsource parts of their middle-office operations. This

is being driven by a focus on cost control and a desire to harness benefits of scale and gain more insights from their data.

How different funds are approaching middle-office outsourcing decisions was the focus of discussion at a recent Investment Magazine roundtable, sponsored by Northern Trust.

AustralianSuper senior manager, investment platforms, Sean Ryan, is part of the team responsible for ensuring the hybrid operating model at the $130 billion super fund is evolving appropriately in response to its increased scale and complexity.

“We’ve been on a journey for the last five years internalising investment management, which we completed last month,” Ryan said. “About a year-and-ahalf ago, we started on a successor program of work to uplift that capability.”

This project to review AustralianSuper’s investment operations has proven much more substantial than the preceding project to in-source more investment management, Ryan said. Key issues that the fund is looking into include data warehousing, plus new portfolio and treasury management systems.

“It’s huge; it dwarfs what we’ve done in the last five years. We’re looking at this as just another evolution,” he said.

AustralianSuper has been collaborating with peer funds globally and domestically to gain insights into how they have strengthened their operating models.

“We’re looking for the opportunity to learn from everyone else’s mistakes,” Ryan said, adding that ensuring the fund retained access to, and control over, the right data was a perennial issue.

“As we’re bringing data in-house, we’re looking at whether we over-engineered control processes slightly,” he explained.

“So, we’re taking the opportunity to look at some of those things and whether they’re actually needed.”

Peter Jordan is head of global fund services, Asia-Pacific, for Northern Trust, which has US$9.7 trillion ($12.1 trillion) in assets under custody and administration across the globe, and works with some of

the world’s leading pension and sovereign funds. He said long-term thinking is important, as operating models are evolving and everybody has their own view of what’s best for their organisation.

“Not everybody is connected with a longterm strategy,” Jordan said. “Sometimes, decisions are just about fixing a problem… so businesses will install something, not really being sure whether it’s fit-for-purpose longer term.”

He said that as the trend of asset owners insourcing asset management continues, it is critical that funds ensure they are able to aggregate their data and maintain a clear view of their total portfolio and operations.

This is why Northern Trust continues to invest heavily in its middle-office technology platform, which provides its clients with integrated services for middle-office, portfolio management and administration, he said.

Lazard Asset Management is a US$213 billion ($265.9 billion) funds management firm running money for some of the world’s top pension funds.

Like many other leading global asset managers, Lazard has long outsourced its middle-office operations, allowing the business to focus on its core competencies.

The firm’s local chief executive, head of Asia-Pacific Rob Prugue, said that when thinking about middle-office data requirements it was important to recognise “the difference between knowledge and wisdom”.

Prugue explained that the international regulatory environment ensured a high level of data transparency but that funds didn’t always have the capability to leverage it for their commercial benefit.

TARGET OPERATING MODELS Five years ago, New Zealand Super general manager of operations, David Sara, led the NZ$43.2 billion ($39.4 billion) sovereign wealth fund through the process of developing a target operating model − a blueprint for how its operations might ideally function in the future. The fund uses a combination of insourcing and outsourcing across both its investment

ACHIEVE GREATER www.northerntrust.com ©2018 Northern Trust Corporation

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management and operations functions.

Reflecting on how the vision for a hybrid operating model NZ Super developed five years ago compares with today’s reality, Sara noted that he “probably underestimated” the impact of the shift to direct investments and the need for data.

“Direct investing has definitely had a big impact on the organisation; both in the due diligence around making investments and the ongoing management of them,” he said.

“And four or five years ago we didn’t really have a lot of conversations around data.”

Improvements in technology, particularly automation and machine learning technologies, are having a huge impact on the systems and processes funds need to support their operating models.

“The pace of technology change means the ability to hook onto, and unhook from, new systems has become important because something that’s fit for purpose now may not be in five years,” Sara said.

“Increasingly, our implementations are integrations; we’re sending data out and bringing it back.”

Brisbane-based $47.5 billion super fund Sunsuper began reviewing its operations three years ago, as it appointed Lounarda David chief investment operations officer.

“We have redesigned the model to be fit-for-purpose and suitable to support the organisation’s overall long-term strategy,” David said. Today, she describes the fund’s approach as a segregated hybrid model, with a combination of insourcing and outsourcing.

“One of the first changes we made was to the governance model, to make sure we gave enough authority to the business to be able to push things along,” she said. She noted that this process has coincided with an important growth period for the fund, as Sunsuper has bedded down mergers and expanded its national footprint.

David said the new operating model allowed for a more “business-led” approach to technology and data.

a hybrid operating model through a period of growth. In recent years, TCorp has led the amalgamation of a number of NSW State Government funds, causing its funds under management to swell from $25 billion to $90 billion.

“We’re looking at our operating model from an end-to-end perspective,” TCorp general manager, investment implementation and operations, Jonathan Green, said.

TCorp runs by a “hub-and-spoke model” that incorporates a core, consistent repository of data and additional features that can be plugged into the system as needed.

“We tailor our operations to be able to deliver to our clients,” Green said.

TCorp has a diverse set of NSW Government clients, including super, insurance, managed funds and councils.

Green’s advice to other funds reviewing their underlying operating model is to spend time initially assessing the capabilities of all the participants in the value chain.

“That way, you can have a much more considered approach,” he said. “I’m talking about going back to things like the time brokers deliver statements. That’s at the beginning of the chain and all else follows from there. You have to go right back to the execution level to…identify all the key dependencies.”

He said the ultimate aim was to go beyond deciding what data is important,

and move to a more sophisticated analysis of it: “We’ve moved past the data. We want information, knowledge and wisdom.”

FOCUS ON DATA Northern Trust’s head of hedge fund services for Asia-Pacific, Ali Sheikh, said data management is a key focus for his team and its clients, which increasingly include asset owners looking to apply the middle-office outsourcing model long prevalent at hedge funds.

“The first step is normalising data from disparate sources into one useful dataset, and connecting different brokers and systems to give our clients a holistic view of their portfolio,” Sheikh said. “The second step is how you use that data for various value-add functions for the portfolio or to optimise your cash from a balance sheet perspective. Having one system tends to be where our clients are moving towards as they gain efficiencies from leveraging one source of data and limiting the number of reconciliations and manual intervention by operations teams.”

Middle-office outsourcing is also attractive for many small to mediumsized funds, as it enables them to harness technologies and economies of scale otherwise unavailable to them.

Legalsuper, a $3.4 billion industry fund for the legal sector, harnesses benefits of scale for its members through a range of outsourcing partnerships.

“Our operating model is a function

ALI SHEIKH Northern Trust

A HYBRID APPROACH New South Wales Treasury Corporation (TCorp) is another example of a major institutional investor that has embraced

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LOUNARDA DAVID Sunsuper

SPONSORED ROUNDTABLE \

of the size of our fund and the way we invest,” legalsuper chief executive Andrew Proebstl said. “Our investments are with third-party managers. Insourcing isn’t on our radar. Separate governance and investment management is an important part of what we do.”

Vision Super, which has $9 billion in assets, is a mid-sized fund that is rethinking its operating model in response to growth.

“Nine months ago, we brought in a chief investment officer, who made changes and gave additional delegations to the investment team,” Vision Super head of investment operations Emma

EMMA ROBERTSON Vision Super

ROB PRUGUE Lazard Asset Management

DAVID SARA New Zealand Superannuation Fund

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JONATHAN GREEN TCorp

Robertson said.

The need to access accurate, timely investment data is one of the dynamics driving changes to the operating model.

“The challenge for us has been to understand what’s going on with our assets,” Robertson explained. “A big thing is being able to get easily accessible, regularly updated data in a format we can analyse, and developing proper analysis to understand some of the more complex assets.

Once we identified our controls, we prioritised the ones we thought were the most important and ones we needed to change. That meant getting different data from our custodian, getting flat files rather than formatted reports so we could reduce data entry.”

A COLL ABORATIVE APPROACH

PETER JORDAN Northern Trust

The big challenge, roundtable participants agreed, is ensuring decisions made now about data gathering and analysis make sense down the track. Even for large funds, superior benefits of scale can typically be achieved by adopting an outsourced, or partially outsourced, operating model.

Northern Trust’s Sheikh encouraged fund executives to keep the lines of communication open with all their service providers, including their custodian, to ensure they can leverage their knowledge and expertise.

“If you’re going through something that you may not have the answer to, touch base with your service provider and those middle-office teams to ask how they’ve seen it done elsewhere,” he said. “We may have an out-of-the-box solution, or we may have seen someone else solve a similar problem.”

WE FOCUS ON OPERATIONS, SO YOU CAN FOCUS ON YOUR STRATEGY Learn more at www.northerntrust.com/operations ©2018 Northern Trust Corporation

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INCOME

shelters

Reliable rent streams are set to trump asset valuations in 2018, as the institutional property market shifts down a gear.

By Ben Hurley

A COMBINATION OF high asset values and rising interest rates means the decade-long dream run Australian institutional property managers have enoyed is drawing to a close. In response, asset owners are looking for new ways to generate the best possible risk-adjusted returns from their real-estate exposures.

Investment Magazine asked those with responsibility for property portfolios at three of the country’s largest institutional investors – IOOF Holdings, UniSuper and QBE Insurance Group – about how they are tackling the challenge.

All agreed the ride property investors have enjoyed from climbing asset prices and firming capitalisation (cap) rates is unlikely to continue much longer, as the current cycle nears its end. They are re-evaluating their portfolios with a greater focus on income growth and avoiding those sectors or regions at greatest risk of being at or near their peak.

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Long-term leases, quality tenants, low levels of gearing and offshore diversification emerged as key themes.

As did a focus on sub-sectors and regions with the potential to increase income streams.

UNISUPER LOOKS TO LISTED UniSuper, the $65 billion superannuation fund for the higher-education sector, is looking to de-gear its property portfolio over concerns about cap rates.

“We think capital growth is just not going to be as prevalent, which means leverage is just not going to be the enhancer to returns it has been,” UniSuper head of property and private markets Kent Robbins says. “And if the market turns, then leverage is going to be your worst enemy.”

Looking ahead to how he might deploy capital in 2018, Robbins thinks ASX-listed

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RE AL ESTATE \

“The easy days are over from my point of view,” he says. “The ability for both assets and sectors to grow their income streams is going to become the determinant of outperform versus underperform.”

IOOF REVIEWS LESSEES

property funds are now looking attractive, with valuations for domestic unlisted property having run hot.

“Over the last 12 months, direct property returns are twice that of the listed property market, which causes us to reflect,” Robbins says.

He says lower valuations of listed funds reflect investors overstating the potential negative impact Amazon’s arrival in Australia will have on the retail property sector, while the unlisted market may have underpriced how tough the retail market is set to become.

Robbins sees a similar dichotomy – playing out in reverse – in the industrial property sector, where listed industrial stocks, such as Goodman Group, are performing spectacularly well, while unlisted funds have done poorly.

“I don’t subscribe to the thinking that because cap rates on some of these super regional malls are the firmest they have ever been, therefore the outlook must be better than it’s ever been,” he says.

“That just doesn’t seem to be realistic.”

Robbins believes the free ride from cap rates firming up as asset prices have climbed is probably mostly complete, and the ability of assets to generate income growth will become paramount in the year ahead.

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A major focus for IOOF Holdings portfolio manager, property, Simon Gross, in 2018 will be tenants’ ability to pay increasing rents.

“It’s critically important all the lessees of a building, all the occupants, have the financial capacity to pay the rent,” Gross says. “In this world of fairly contracted yields, investors are quite reliant upon recurring income streams and increasing rent levels.”

Contracting yields may also affect the ability of property owners to offload assets, Gross says.

“Values have gone up, yields have contracted, and there are plenty of people who want to sell property but it will be up to the purchasers to decide whether they will accept contracting yields,” he says.

“The vendors are now asking relatively inflated prices for assets…That’s a big factor for the next 12 months.”

IOOF is an ASX-listed wealth manager with a market capitalisation of $3.3 billion and funds under management and supervision of $147 billion. Within its Australian direct property portfolio, it favours assets in core markets Sydney and Melbourne with a secure income stream from long-term leases to quality tenants.

“That means even if there is a correction in values, people keep paying the rent,” Gross says.

Macroeconomic trends affecting tenant quality in other international markets will also be important to watch.

While Australia and America have relatively strong population growth, Japan and parts of Europe have negative population growth and Gross says the effect of this on demand for property could be exacerbated in the coming year.

“Without population growth, then clearly the labour force shrinks, and a shrinking labor force is bad for the

economy and detrimental to property, due to the lack of ability to pay the rent and the number of lessees,” he explains.

QBE EMBRACES EUROPE Global insurance giant QBE is increasing its European property exposure and generally favouring unlisted core funds in its global property portfolio.

QBE manager, property and alternatives, Gavin Mork, says unlisted core funds have played an important role in the group’s portfolio as a “bond diversifier” since its global real estate investment program was established five years ago.

“Our reason for using real estate in our investment book was more of a bond diversifier and bond replacement, given the low level of yields around the globe, and the attractiveness of the income stream that is achievable in property,” Mork says.

QBE, a $14.9 billion dual-listed insurance giant with a $24.8 billion investment portfolio, first built up its exposure to unlisted property funds in the US, and is now pursuing a similar approach in Australia, Europe and the UK. “The benefit of that for us has been getting access to professional management in that space, especially in markets we certainly didn’t have an expertise in,” Mork says. “Also, once you are invested, you have an immediately diversified exposure to direct real estate through the fund, and across all the sectors − office, retail, industrial and multi-family.”

Looking ahead, Mork says he is concerned that real estate is “certainly not at the end of the cycle but later cycle”.

Capitalisation rates in the US, and in some specific sectors and cities, are lower than they were before the financial crisis, he says, and property returns will probably decline over the next 24 to 36 months.

One approach in response to this softer outlook is reducing exposure to the US and shifting it to Europe.

“Europe hasn’t had those double-digit returns and economic tailwinds the US has had, it’s starting to see that come through now, so we are a bit more positive there,” Mork says.

Robbins, Gross and Mork will share their outlooks and strategies in more detail at the upcoming Investment Magazine 2018 Real Estate and Private Markets Conference, at Crown Towers Melbourne, on February 27-28.

For more information, please visit the conference website at privatemarketsconference.com.au or contact Emma Brodie: +61 2 9227 5708.

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WE’RE HERE FOR YOUR MEMBERS’ MOMENT OF NEED. In 2016 alone, we paid over $1.4 billion in claims to both Retail and Group members. That’s over $4.4 million every working day.

01/18_ADV3845

Because we’re here for your members’ when they need it.

AIA.COM.AU

LIFESKILLS \

A ROLE FOR REHAB IN GROUP INSURANCE LAW REFORM is needed so the group insurance sector is less constrained in its ability to support wellness and provide early access to rehabilitation.

JOHN BERRILL PRINCIPAL | BERRILL & WATSON

John Berrill is a consumer lawyer who has been assisting clients with insurance claims for 25 years. He is a long-time adviser to the Superannuation Complaints Tribunal.

NEARLY 15 MILLION Australians have superannuation, almost the entire working-age population.

The vast majority have death, total and permanent disability (TPD) and/or income protection insurance in some form. Group policies account for 70 per cent of all life insurance Australians hold.

Accordingly, super funds and their life insurance partners are well placed to have some influence on important social issues, such as suicide and obesity, and have a substantial impact on their members’ health outcomes and capacity to work.

But super funds and insurers are hamstrung in their ability to offer support to members.

The Health Insurance Act 1973 prohibits life insurers (and general insurers) from paying for medical treatment that may otherwise be payable

investmentmagazine.com.au

under Medicare or by a private health provider. This means group insurers cannot pay for most medical services to treat super fund members’ injuries or illnesses, or fund many medicalrelated rehabilitation services.

Group insurers can offer retraining services as part of income protection benefits,

found that if a claimant would require more than minimal re-training to return to their occupation, they might be classified as TPD. This has caused consternation in the industry, amid many examples of claimants being paid TPD benefits and then re-training and returning to work. This

A number of cases have raised the question of what constitutes an acceptable level of re-training before a claimant becomes eligible for a benefit

and some do; however, under the Superannuation Industry Supervision Act, (SIS) trustees offering TPD benefits via MySuper funds can offer only benefits consistent with the definition of ‘permanent incapacity’, which does not include a re-training clause.

THE TROUBLE WITH TPD The definition of TPD has been tested in the courts over the years. A number of cases have raised the question of what constitutes an acceptable level of re-training before a claimant becomes eligible for a benefit.

The courts have generally

is not consistent with the intention behind the design of TPD benefits within superannuation, namely to top up the retirement incomes of those whose working lives are cut short because of disability.

Some commentators have pointed to this as contributing to the rise in claims and the adverse claims experience of group insurers in the last five years. Meanwhile, rising premiums, leading to account erosion, have come in for media criticism in the last few years, attracting the attention of government and regulators.

There have also been

criticisms that TPD lump sums provide a disincentive to rehabilitation. Others have criticised long-term income protection insurance benefits as not consistent with the sole or ancillary purpose test under the SIS Act for retirement incomes, particularly if not accompanied by continued payment of superannuation guarantee contributions.

Insurance within superannuation has been an integral part of the retirementincome system in Australia, providing cost-effective insurance against people having their working lives cut short because of injury or illness and thereby not having enough money to live off in retirement.

LEGISL ATIVE FIXES Prevention, rehabilitation and re-training all fit well in the policy intentions underpinning our system of default insurance benefits within superannuation.

Such initiatives can reduce the incidence and period of incapacity, which enhances the ability of members to work and continue to accrue superannuation during their working lives. Group insurance would still provide a safety net for those whose working lives are genuinely cut short because of injury or illness.

The government should propose legislative amendments to enable superannuation funds and their insurers to offer limited rehabilitation and re-training. The definition of TPD and permanent incapacity in the SIS legislation should also be amended to include a reasonable retraining clause.

Income protection, or periodic benefits, can also encourage rehabilitation, but any such benefits must be accompanied by payment of superannuation guarantee contributions to be consistent with retirementincome policy.

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\ CIO OUTLOOK

READY FOR THE Five chief investment officers in the running for CIO of the Year in the 2018 CONEXUS FINANCIAL SUPERANNUATION AWARDS reveal some common concerns about the troubling forecast for markets.

By Sally Rose and Amanda White

LEADING CHIEF INVESTMENT officers at Australian superannuation funds are focused on readying their teams and portfolios for the growing risk of a market downturn the likes of which hasn’t been seen since the global financial crisis a decade ago.

One of two international CIOs on the judging committee for the 2018 Conexus Financial Superannuation Awards, New Zealand Super’s Matt Whineray, says his peers are working in exceptional circumstances.

“CIOs are always faced with uncharted waters, but currently it feels like we’re not even sure if they are waters as we used to know them – very low yields and correspondingly high valuations for almost all assets, a volatile geopolitical environment and new risks to consider, such as climate change, make portfolio management highly challenging.”

The judges will be looking to award a CIO with a proven ability to think strategically.

“They need to be across the constantly changing investment environment, while thinking strategically about how they build a team to manage increasingly complex portfolios, and keep their boards with them on the journey,” Whineray says. “And they’re required to innovate along the way, in how they use data, how they execute, how they access opportunities and how they deal with managers.”

In 2017, the CIO of the Year honour was jointly awarded to Cbus Super’s Kristian Fok and Trish Donohue.

The five finalists in the CIO of the Year category at the 2018 Conexus Financial Superannuation Awards (in alphabetical order) are: MLC’s Jonathan Armitage, AustralianSuper’s Mark Delaney, Australian

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CIO OUTLOOK \

Ethical’s David Macri, Statewide Super’s Con Michalakis, and Sunsuper’s Ian Patrick.

We asked them to share insights into the strategic thinking behind their portfolio construction and investment operations.

Investment Magazine WHAT DO YOU BELIEVE WILL PROVE OVER TIME TO BE THE MOST SIGNIFICANT DECISION YOU MADE IN 2017?

We worked hard to reduce costs for members and we saw investment expenses drop by $11 million, or 3 per cent, in 2017, while member assets grew 20 per cent Au stralian Supe r C IO , Mark D el ane y

investmentmagazine.com.au

Jonathan Armitage In 2017, we expanded our investment team to explore new ways to construct our portfolios and deliver outcomes for investors. It is becoming more important to look at exposures that go beyond the traditional building blocks.

We brought the management of a portion of our Australian equities portfolio into our asset allocation team. This allowed us to align our top-down view with the construction of the underlying portfolio and build an Australian equities portfolio that minimises the risk of a market dominated by two sectors.

Mark Delaney Without doubt, our continued commitment to internalising investments is going to have the biggest impact on the fund and its future performance. We worked hard to reduce costs for members and we saw investment expenses drop by $11 million, or 3 per cent, in 2017, while member assets grew 20 per cent.

David Macri In 2017, we made our first ever investments into venture-capital funds. These focus on Australian startups in the technology and clean tech industries. We were also a foundation investor in a new healthcare property fund. We hope to look back on this decision and feel we had a hand in sparking these local industries to life, and of course generating significant returns for our members and investors.

Con Michalakis I believe the most significant decision in 2017 was hiring two new team members – adding an independent investment committee member and a new chair of the investment committee. I have found that people matter more now than ever. Investment decisions and asset allocation calls are part of the job; however, it’s the addition of these individuals that will prove to be the most important long-term impact for Statewide Super.

Ian Patrick I honestly believe trusting the processes and capabilities within our team that are set up to deliver on our objectives will over time prove to be most significant, rather than a single decision in a single year. Over the last few years, we’ve really focused on expanding and developing our investment team and processes to ensure we’re at the forefront of global investment trends and issues.

IM WHAT DO YOU EXPECT TO POSE THE BIGGEST THREAT TO YOUR PORTFOLIO IN 2018?

JA There are two broad sources of potential threats: irrational market behaviour and a shock to the real economy.

One threat from unsustainably strong equity markets is that investors may be disappointed that returns, while OK in absolute terms, are not higher compared with other investment options. This can lead people to take on more risk than ultimately turns out to be prudent.

The second threat has a more obvious negative impact on return outcomes for investors. Consensus expectations are for continued synchronised global growth and low inflation. However, a significant vulnerability remains in the form of excessive levels of debt. This threat lay behind the GFC and remains unresolved.

MD Given our portfolio has a growth bias, the biggest threat to it is an equity bear market. Bear markets are mainly triggered either by rising interest rates causing pain for leveraged companies, households and investors or, less frequently, by very sharp rises in energy prices. At present, we don’t judge that the conditions are in place to trigger a bear market. However, if rates continue to rise then the risk of a material sell off in risk assets will rise but that is likely to be more of an issue for 2019 than 2018.

DM Whilst we don’t currently invest in international fixed interest, we do have a substantial allocation to the Australian fixed interest asset class. As such, a steep increase in Australian bond yields would negatively affect performance. Also, a bond market correction may trigger a de-rating of the industrials (ex-resources) segment of equity markets globally, which is by far our super fund’s default option’s largest exposure.

CM The biggest threat is an unexpected event, be it geopolitical or other, that

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severely affects performance. This is eternal angst, but because we’ve had such a benign and good investment-returning environment lately, the chance of a drawdown is expected to be higher.

We are in a long economic cycle and asset prices are expensive. This is about the time investors make mistakes or companies might do something silly due to the fear of missing out on ‘growth’.

IP Even though I believe trusting the processes and capabilities of our team will be our biggest strength, as with all funds, falling prey to the belief that these are all-knowing and don’t need to be tested and re-tested is a risk. As such, for us it’s a continuous cycle of reviewing and enhancing to ensure that we’re effectively executing our investment strategy and delivering positive returns to Sunsuper’s members. At a macro level, always the biggest threat to any portfolio, not just in 2018, is an event or action that causes a meaningful liquidity crisis in markets.

10 years is the current high valuations in the industrials (ex-resources) segment of developed equity markets, driven by a record low interest rate environment and solid growth expectations. If inflation returns to more normal levels and beyond current expectations, bond yields will move higher and central banks will need to accelerate their rate increases.

The negative effect on equity valuations could be compounded if the central bank action and increasing bond yields cause consumer spending to pull back even further and corporate investment to decline.

CM The biggest headwind to meeting our return targets will be the fact that it is a challenging environment in so many asset classses. Managing elevated member expectations is also a challenge. I’d also suggest that our members consider appropriate assets that can be used for income

IM WHAT DO YOU EXPECT TO BE THE BIGGEST HEADWIND TO MEETING YOUR RETURN TARGET OVER THE NEXT FIVE TO 10 YEARS? JA Since the late 1980s, there have been a number of booms that have inevitably led to bust. Each bust has brought ever more innovative and accommodative monetary policy, creating a ‘debt supercycle’ in which excesses don’t get cleaned out and debt progressively ratchets up relative to GDP. This can create two problems for investors. Firstly, there is an emergent consensus that monetary policy has reached the limits of its power and needs to be wound back. Secondly, social discontent is getting political attention and reinforcing the need for policy changes. We may be witnessing the beginning of the end of an era.

MD Valuations. Our research shows that although value is not an important driver of short-term returns, the valuation on which you buy an asset is a key driver of returns over five to 10 years. So, given today’s high starting valuations for many assets, valuation will be the biggest headwind to meeting our return target over the next five to 10 years.

DM The biggest headwind to meeting our return targets over the next five to

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The most significant decision in 2017 was hiring two new team members, and adding to the investment committee. People matter more now than ever State w ide Supe r C IO , Con Mic h al aki s

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CIO OUTLOOK \

in retirement. People have got used to the double-digit returns and lack of volatility – but, as investment cycles demonstrate, this won’t last forever.

History tells us that it can spiral into negative feedback loops and then amplify into something destructive.

IP The high starting point today for market valuations, whether in equities, credit, numerous unlisted/real assets or fixed income, is a headwind to returns over the next five to 10 years. This goes to the question of reward for risk. Our team is particularly focused on the question of pursuing incremental risk in searching to meet objectives at a time when many risks are fully priced.

investments, and increase cash a little. Within equities, we have increased our exposure to value-style managers.

We are, basically, trying to trade off long-term returns against greater volatility plus meet investment objectives.

IP It’s less about repositioning our portfolio and more about the team ensuring that optimum diversification is maintained, both in terms of creating access to relevant opportunities and the rigorous evaluation of those.

IM ASIDE FROM INVESTMENT DECISIONS, WHAT IS TAKING UP A LOT OF YOUR TIME AND FOCUS AT THE MOMENT? JA Customers have entrusted us to

IM HOW ARE YOU REPOSITIONING THE PORTFOLIO TO MAKE IT MORE RESILIENT? JA We are making more use of our derivatives capability to insulate our portfolios against the most challenging environments. The current low volatility affords us some flexibility in this regard.

Options allow us to protect against the most challenging outcomes, where valuations disconnect from fundamentals, without making significant changes to the defensive positions of the underlying portfolios.

MD The portfolio is naturally pretty resilient, given the mix of equity, infrastructure, property, fixed income and cash that it holds. Nevertheless, as the global monetary tightening cycle evolves over the next couple of years, it is likely that we will reduce its exposure to equities and increase its exposure to government bonds. We will also tilt the equity portion of the portfolio so that it is invested in more defensive sectors.

DM Our portfolios have, historically, always proven resilient. We are committed to our process and remain as disciplined as ever in ensuring we build robust portfolios. The process does lead to our equity portfolios underperforming in strong equity markets, but they more than make up for it when markets inevitably correct.

CM Given our concerns about lack of value across many asset classes, we have sought to diversify across asset classes, increase our exposure to alternative

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help them achieve their investment goals.

While delivering returns is a significant part of this, ensuring we are producing the right communications and engagement tools is also key. It is also essential that our investment teams have the right culture married with the right technical skill sets. Providing an environment that is open, collegiate, sceptical but not dogmatic and, at the same time, guards against group think and consensus views, is another key focus.

MD Ensuring that AustralianSuper has the right people with the right skills to deliver for members year after year is a major focus for the whole fund.

AustralianSuper has a great culture and maintaining that is very important.

Acting in our members’ best interest to help them achieve their best possible retirement outcome is our primary focus.

DM A lot of my time is spent ensuring we have adequate tools and resources in order to continue to deliver performance to our investors and superannuation members.

We are continually trying to improve our processes and build systems and screens to support good investment decisionmaking. The better the tools, the easier it is to make those decisions.

CM We have a good structure, in that I can focus on investments, the team and clients. Therefore, other than investments, the rest of my time is focused on the investment team, internal leadership as part of Statewide Super’s executive team, and meeting with members.

We’ve really focused on expanding and developing our investment team and processes to ensure we’re at the forefront of global investment trends and issues Sun supe r C IO , Ian Patr ic k

We are continually trying to improve our processes and build systems and screens to support good investment decision-making Au stralian Ethical C IO , D a v id Ma c r i

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The biggest focus, other than investments, is developing the team and making sure members get access to our views and thoughts about their super.

IP Sunsuper’s purpose is to inspire and empower Australians to fulfil their retirement dreams. Whilst our team clearly focuses on delivering superior returns aligned with delivering on this purpose, supporting the fund’s overall member engagement effort to lift awareness of the drivers of retirement outcomes and what to expect along the journey is an important supplementary area of activity. Anything our team can be doing to get members engaged in their super as early as possible will not only benefit the fund, but also our members in retirement.

We are making more use of our derivatives capability to insulate our portfolios against the most challenging environments M LC C IO , Jonath an Ar mitage

ABOUT THE AWARDS CIO of the Year is one of 12 categories in the 2018 Conexus Financial Superannuation Awards.

The awards recognise excellence in the industry and aim to encourage super funds to raise the bar in all aspects of their operations. The focus of the awards is to honour funds that offer products and services that will ultimately lead to better retirement outcome for members.

While there are many other awards nights on the industry calendar, the Conexus Financial Superannuation Awards are unique in that they are not aligned to a research or ratings house, and do not charge funds to participate.

Actuarial and consulting firm Rice Warner assists with quantitative analysis.

The judging panel comprises California State Teachers’ Retirement System CIO Chris Ailman, Fund Executives Association Ltd (FEAL) chief executive Joanna Davison, CHOICE chief executive Alan Kirkland, Financial Services Council chief executive Sally Loane, Rice Warner chief executive Michael Rice, and former minister for financial services and superannuation, the Hon. Bernie Ripoll.

“There’s no shortage of commentary or opinions on super fund performance but the strength of this process is the

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focus on data, which removes a lot of the subjectivity,” CHOICE’s Kirkland says.

“At the same time, the growing debate about the importance of effective governance has forced us to bring in some qualitative assessment of factors like this, which can’t be reduced to numbers.”

Australian Prudential Regulation Authority deputy chair Helen Rowell is a special adviser to the judging committee, which remains the only truly independent awards panel in the sector.

“APRA views sound governance practices as fundamental to the delivery of value for money outcomes for members,” Rowell says. “I was, therefore,

very pleased to see the steps taken by the judging panel this year to enhance the approach to assessing governance practices and give it more weight in determining the winners in various categories.”

Rowell says APRA encourages all trustees to continue to improve their practices and the outcomes delivered for their members.

“Industry awards, such as the Conexus Awards, are one means for helping the industry do this by identifying better practices in key areas,” she says.

The 2018 Conexus Financial Superannuation Awards are produced with thanks to platinum sponsor AIA Australia and event partner FEAL. All the winners will be announced at a special black-tie event on March 8 at the Ivy Ballroom, Sydney. Tickets are now available. Visit conexussuperawards.com.au or contact Emma Brodie via emma.brodie@conexusfinancial.com.au or +61 2 9227 5708.

investmentmagazine.com.au

Superannuation 2018

| MARCH 8, 2018 | IVY BALLROOM, Sydney, NSW |

TICKETS NOW AVAILABLE The 2018 Conexus Financial Superannuation Awards recognise excellence in the superannuation industry and aim to encourage funds to raise the bar in all aspects of their operations, ultimately for the betterment of all members and consumers.

These are the only superannuation awards that are truly independent, without the involvement of a research house that may be commercially linked with industry participants.

The winners will be announced at a special black-tie event on March 8.

Tickets now available conexussuperawards.com.au

AWARD CATEGORIES Best Insurance Offering

Best Advice Offering

Medium Fund of the Year ($5-10 billion)

Default Fund of the Year

Best Technology Offering

Large Fund of the Year (>$10 billion)

Pension Fund of the Year

Innovation and Transformation

CIO of the Year

Member Services Fund of the Year

Small Fund of the Year (<$5 billion)

Super Fund of the Year

MORE INFORMATION awards@conexusfinancial.com.au | conexussuperawards.com.au

PLATINUM SPONSOR

EVENT PARTNER

2018 FUND EXECUTIVE FORUM

Connections Brands, boards, members & employers - how do we best connect?

R E G I S T R AT I O N S NOW OPEN FOR

Wednesday 28 February Forum Dinner Park Hyatt, Melbourne (FEAL members and guests)

Thursday 1 March Fund Executive Forum Melbourne Business School, Carlton (FEAL members only)

Hear from academics, superannuation executives & corporate leaders.

REGISTER NOW SUPPORTED BY

For more information contact FEAL on (02) 9299 6648 or visit:

www.feal.asn.au

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EDUCATION

LOOK INWARD TO LEAD Qantas Super CIO Andrew Spence won the FEAL 2017 Scholarship to the London School of Economics Executive Education program.

He shares some insights about modern leadership from that experience.

ANDREW SPENCE CHIEF INVESTMENT OFFICER | QANTAS SUPER

IN LATE 2017, I was fortunate to attend the Achieving Leadership Excellence course at the London School of Economics and Political Science (LSE), which provided an opportunity to develop my personal leadership capacity and style, and continue building a global perspective.

LSE’s focus on academic research, self-reflection and multi-level feedback proved to be an excellent complement to my leadership studies over the last couple of years via US-based institutions Cornell University and Thunderbird School of Global Management at Arizona State University.

LSE’s course helps participants understand effective leadership. Simply stated, the new leadership paradigm revolves around fostering a positive environment where people can work productively.

This requires leaders to take the time to look inwards.

A decade ago, an article published in the Harvard Business Review titled “Discovering Your Authentic Leadership”, by Bill George, Peter Sims, Andrew N. McLean and Diana Mayer, summed it up nicely: “We all have the capacity to inspire and empower others.

But we must first be willing to devote ourselves to our personal growth and development as leaders.”

GROUNDING VALUES In the context of a contemporary knowledgebased working environment such as the superannuation industry, leaders need to exert influence grounded in positive values and personal humility. Relying on the blunt instruments of formal authority and title-based hierarchy is neither a sustainable nor a

We all have the capacity to inspire and empower others. But we must first be willing to devote ourselves to our personal growth and development as leaders investmentmagazine.com.au

winning strategy.

Collaboration, empowerment, and a higher ethical purpose are the cultural attributes effective leaders need to engender if they are to develop and motivate their employees to go beyond self-interest and work towards collective goals. Leaders must display behavioural integrity if they are to inspire. Building trust and respect requires an ability to act with integrity and consistently demonstrate high moral standards and values.

Doing the right thing should always be a ‘non-negotiable’.

ETHICS, DIVERSIT Y The gap in ethics within many organisational structures proved a most important topic of discussion at LSE, within both the formal agenda and the break-out sessions.

The ethics issue may be explored on both an individual and a collective level. Shifts in stakeholder expectations have made it necessary for an organisation to function as an exemplar of ethical purpose to maintain its social licence to operate.

The burden of proof continues to increase as community and stakeholder expectations grow, fuelled by the transparency of social media. The Australian superannuation industry, as custodian of other people’s money, is not immune from this dynamic.

Diversity was another big topic, given its importance in encouraging innovative thinking and enhancing the quality of collaboration and decision-making. Diversity can be intrinsic (or cognitive), based on diversity in thinking styles, experiences and processes. It can also be extrinsic (or surface level), based on more easily measureable metrics such as gender, race and age.

Effective leaders have a responsibility to identify, challenge and address unconscious bias by ensuring that diversity, inclusion and tolerance are fully embraced in the workplace.

Leadership is intricately aligned with anticipating and embracing change – cognitively, culturally and strategically – while inspiring those around us to go the extra mile. The impacts of technological disruption, globalisation and increased competition make this pursuit more challenging. It is perhaps the rate and erratic nature of change that reinforces the imperative and value of leadership if an organisation is to survive and prosper.

In summary, I greatly valued the encouragement towards personal and professional growth I received from attending LSE’s course, an opportunity that my employer, Qantas Super, fully supported.

The experience was enhanced by the excellent lecturers and the real-world experiences the other 29 participants shared.

I am deeply grateful to FEAL for the opportunity.

The 2018 FEAL Fund Executives Forum will be held at The Melbourne Business School, Carlton on March 1. For more information or to register, please visit feal.asn.au

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PRIVATE EQUITY

lustre LOSES ITS

One of the authors of landmark research that has long underpinned confidence in private equity has revisited her findings – with unsettling results.

By Amanda White

A WARNING SHOT has been sounded for private-equity investors. Not only can they no longer expect the stellar returns they are used to from the asset class, but also the reliability of top performers is slipping.

For investors in the US, the reliability of solid returns among top performers – known as persistence – has been one of the hallmarks of private equity, making it something to retain. But new research by academics at the Massachusetts Institute of Technology, in Boston, shows that persistence is no longer a reliable feature.

The new research, by Antoinette Schoar, chair of the finance department and the Michael M. Koerner (1949) Professor of Entrepreneurship at MIT Sloan School of Management, shows persistence of returns from private-equity funds has gone down in the last decade, undoing the seminal work she co-authored 15 years ago with the University of Chicago’s Steven Kaplan.

Schoar and Kaplan’s 2003 report, Private Equity Performance: returns, persistence and capital flows, found “returns persist strongly across funds raised by individual private-equity partnerships”. In contrast, Schoar’s new work shows that the variance in returns between the top and bottom quartile still exists, but the persistence at the top has decreased.

“Being in the top quartile is still as important as before, but because persistence is going down, you can’t rely on a top-quartile fund in 2000 [staying]

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Being in the top quartile is still as important as before, but you can’t rely on a top-quartile fund in 2000 staying top quartile top quartile,” she explained. “What this means for investors is your life is even more difficult.”

Some asset owners, such as the US$80 billion ($101.1 billion) Oregon State Treasury, which is the oldest private-equity investor in the US, are reacting to this by reducing their PE allocations.

Oregon, which first allocated to private-equity house KKR 37 years ago, is gradually reducing its PE portfolio from 25 per cent of total assets to 17.5 per cent.

Chief investment officer John Skjervem said the fund can no longer expect what it once did from its private-equity portfolio, which has added US$9 billion above the public-equity equivalent since 1980.

The average allocation to private equity by US public pension funds, which collectively manage US$3.6 trillion, is 7 per cent, alternative assets research house Preqin states. The largest fund in the US, the California Public Employees’ Retirement System, has about 8 per cent of its US$357 billion allocated to private equity.

Locally, Australian MySuper products have about 5 per cent allocated to unlisted equity, on average, an Association of Superannuation Funds of Australia report states.

Oregon’s Skjervem said: “Private equity has been the lead guitar in our band, but we are now adding extra instruments, with

investmentmagazine.com.au

GLOBAL TRENDS \

the expectation that there is no substitute for the excess returns of private equity.

US$9 billion is a big number, but we don’t expect that to continue, so our efforts are focused not on a return replacement, but on adding instruments that are not correlated with the long-only approach in public and private markets.”

“The paper from Kaplan and Schoar, in 2005, was really impactful for me personally,” Skjervem recalled. “It was a significant proof paper for the asset class.

I’ve had the feeling that persistence has been breaking down, and now we have another paper that validates our own experience.”

That isn’t just bad news for privateequity firms, he explained, it’s also not good for the limited partners who have done well investing with them in the past.

Skjervem was speaking last year at the Fiduciary Investors Symposium at MIT, hosted by Conexus Financial, alongside MIT’s Schoar and Ares Management partner Nate Walton.

STRUCTURAL CHANGE In the last two decades, private equity as an asset class has undergone structural change, the decline in returns and their

investmentmagazine.com.au

persistence reflects this.

During that time, Schoar explained, the capital under management in private equity, and the number of funds, have both doubled. In addition, the biggest and best-performing funds are getting bigger, and this means they need to expand their investment portfolios.

But the nature of venture capital and private equity, where illiquidity is greater and opportunities are tougher to scale, means that when funds become larger, the marginal returns to capital go down, even at the best funds.

Walton from Ares, a publicly listed alternatives manager with US$106 billion in assets, said it should be no surprise that private equity has evolved as an asset class.

“The data shows that the same thing cannot be repeated by the same people over and over,” Walton said. “For a long time in our industry, the same thing could be repeated; everyone could use the same strategies, go after the same inefficiencies, and create alpha through illiquidity and some of the other structural inefficiencies.

But in any asset class, that will change, and in an asset class of scale [the ability to do that] will be diminished.”

For Oregon’s Skjervem, the structural changes have put the asset class under more scrutiny. He is getting questioned by his board about the continued validity of private equity. Where it was formerly the star performer, more recently it hasn’t met its benchmark, which is the Russell 3000 Index plus 300 basis points, he said.

“We haven’t met our benchmark in at least five years, so we are starting to get questions about performance,” he said. “Is this a realistic benchmark? I would argue no.

“I could argue Russell 3000 plus 10 basis points is worthwhile because 10 basis points on a $16 billion portfolio is real money. But plenty of people want a more significant figure over public markets to justify the illiquidity you are taking on.”

very cautionary about it because we see massive variances in the performance of co-investment,” Schoar said, “and the timing [often] seems quite detrimental to the fund performance.”

In addition, the co-investment deals are particularly large, in some cases three times as large as the investment the same entity makes in its main fund.

Schoar stated that, in some ways, the large variance in co-investment returns should not be a surprise.

Much of the decision-making, she said, “goes back to the investment team at the LP…So one should be careful to see whether the LP is big enough, sophisticated enough and has the internal resources to make that trade-off.”

She also warned LPs to think about when general partners are most incentivised to include LPs in a co-investment. “The incentives might not be aligned,” she said.

INVESTOR ACTION Schoar predicted private equity would not return to massive persistence in top performance. But she also had another concern.

“If LPs are not vigilant, we will start seeing persistence at the bottom,” she said.

“We see so many LPs wanting so much to get into private equity that they are not sensitive enough to poor performance and keep reinvesting in partnerships that are not deserving.”

Walton went further, and jokingly observed it was “difficult to kill a private-equity fund”.

But there is some good news, he said.

Even though funds have become larger, and returns have gone down, the top funds have still outperformed.

“I think the industry will end up with larger funds that can consistently outperform, and niche smaller funds that can find an advantage in the market,” he said. “And we’ll live in a barbell world.”

MORE BAD NEWS The recent trend of investors favouring co-investments, special-purpose vehicles and direct investment in private equity is a result of the changing trends in performance and persistence, Schoar said. It has tempted limited partners to get involved in the investment process.

“But our data suggests we should be

TO READ MORE STORIES FROM THE WORLD’S L ARGEST ASSET OWNERS VISIT TOP1000FUNDS.COM

FEBRUARY 2018

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RG 97

TWO-WAY LENS Review of how super funds disclose fees and costs puts the focus on how to give both consumers and regulators the most helpful look at the data.

AILSA GOODWIN HEAD OF ADVOCACY | THE AUSTRALIAN INSTITUTE OF SUPERANNUATION TRUSTEES

THERE’S NO POINT beating around the bush. The Australian Securities and Investments Commission’s Regulatory Guide 97, on disclosing fees and costs, is a mess that has failed to deliver on basic consumer protection principles of comparability, consistency and transparency.

With no satisfactory

Research produced by Rainmaker for Industry Super Australia found that in 2016, retail funds controlled 29 per cent of superannuation funds under management but collected 50 per cent of fees.

Clearly, members of retail funds are paying much more than their share of fees and costs.

A carve-out in the RG 97 regime for platform-based products means many members of retail Choice funds will be none the wiser about whether they are getting a good deal on fees.

That aside, a more basic question remains as to whether more disclosure equates to better-informed consumers.

Behavioural economists have highlighted repeatedly that bombarding people with more detailed disclosures does not help them make better choices.

All super fund members

The government should extend the product dashboard regime to Choice products

dashboards. Yet, research by Rice Warner for Industry Super Australia found that almost half of those who make an active choice about their super pay a higher fee after switching, while only 20 per cent of members pay lower fees after changing funds.

Rather than introducing ever more complicated and prescriptive rules about fees and costs disclosure for consumers, the focus should be on enabling members to compare the long-term net returns across all products.

Net returns reflect all fees and costs along with investment performance.

This would be the best use of members’ limited time and capacity to decide whether to switch funds.

There is a simple way to achieve this. The government should extend the product dashboard regime to Choice products. The legislative framework is already in place.

We cannot and should not expect workers to undertake a forensic analysis of the impact of hundreds or thousands of line items detailing individual components of the fees and costs − including indirect costs – within different super products.

OTHER USES resolution in sight to the protracted four-year debacle, perhaps it is time for a new approach. Ideally one that is focused on net returns and simpler for consumers to understand.

already receive information about fees and costs via Product Disclosure Statements and their annual account statement. MySuper members have access to more fee and cost data via product

FEBRUARY 2018

The problem of ineffective disclosure isn’t confined to consumers. It also makes it difficult for regulators, funds, analysts and other stakeholders to assess the efficiency of our super system properly.

The rules for disclosure of fees and costs underpin the data that superannuation funds report to the Australian Prudential Regulation Authority (APRA).

The trouble with this is that the myriad problems with ASIC’s consumer-focused fees and costs disclosure regime trickle into APRA’s data collection; for example, the fees and costs of platform products reported to APRA do not contain all costs of those products, owing to regulatory gaps.

Rather than relying on the deeply flawed fees and costs disclosure rule ASIC is struggling to implement, APRA should develop standalone rules for collecting and publishing consistent, granular, comprehensive data on fees and costs for every superannuation product and investment option.

The regulator could then use this data to: • Monitor whether fees and costs are going up or down • Examine how fees and costs differ for different sectors, asset classes, products and options • Explore the relationship between fees and performance.

The Australian Institute of Superannuation Trustees is engaging with both regulators on next steps to improve disclosure, including actively consulting with ASIC regarding the current review of RG 97.

Disclosure in superannuation has two distinct and important functions: helping consumers and facilitating assessments of our super system’s efficiency.

We need to rethink what information will genuinely help both pursuits. More than 25 years on from the introduction of compulsory super, we are still falling short on both counts.

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ASIC

STILL LISTENING ON RG 97 As the review of the new regime on disclosing fees and costs continues, the regulator remains keenly interested in stakeholder engagement.

PROGRESS UPDATE

JANE ECCLESTON SENIOR EXECUTIVE LEADER | AUSTRALIAN SECURITIES AND INVESTMENTS COMMISSION

SOMETIMES IT IS good to pause and assess. ASIC has worked with industry for some time to bring greater consistency and transparency to reporting of fees and costs.

But even after Regulatory Guide 97 commenced, we received strong feedback from across all sectors of the industry that the practical implementation was challenging and complex.

We also heard that it may not be achieving the goal of transparent and comparable disclosure for consumers.

We took this feedback seriously.

In November 2017, we appointed Darren McShane as an expert to conduct a review of the fees and costs disclosure regime in RG 97 to ensure that it is meeting its objectives.

We expect the release of a public report in the first half of 2018.

investmentmagazine.com.au

In December, McShane started considering the law relating to fees and costs disclosure, existing policy settings, and business practices within the superannuation and managed fund industry.

Since commencing the

submissions. Details of our approach will be made public.

We recognise the importance of conducting this review swiftly and thoroughly.

While we are keen to receive McShane’s recommendations, we are also participating in much of the stakeholder engagement. This is helping

We recognise the importance of conducting this review swiftly and thoroughly review, he has met with a wide range of stakeholders to understand the issues with the preparation and use of information on fees and costs. These stakeholders have included those in the investment management industry, research providers, industry advisers, and representatives from all sectors of the superannuation industry.

The next stage, from March, will involve further stakeholder engagement on issues of detail, plus an opportunity for broader feedback from stakeholders with whom McShane has not been able to meet individually.

This may involve a multiparty feedback session hosted

by ASIC and/or written

us stay up to speed with progress and the direction the review is taking. We want to minimise the period of uncertainty in relation to the fees and costs regime by responding to the review’s recommendations as quickly as possible following their release.

IN THE INTERIM To minimise implementation costs while the outcome of the review is unknown, ASIC has decided to preserve the status quo by extending for one further year the time for compliance with aspects of the disclosure regime that were due to come into force within the next nine months. These aspects are the disclosure

of property operating costs, borrowing costs, tax deductions and buy/sell spreads in periodic statements, and the disclosure of property operating costs in product disclosure statements for superannuation funds. This extension was in response to a request from a number of industry bodies representing a range of sectors.

While the review is in progress, ASIC’s facilitative compliance approach continues.

This means we are focused on seeing that responsible entities and trustees act in good faith and do not mislead consumers.

UP NEXT For further information about any aspect of the review or fees and costs disclosure requirements or to register your interest in providing feedback, please contact us by emailing feeandcostdisclosure@ asic.gov.au We also maintain a Fees and Costs disclosure Q and A page on our website.

We appreciate that the review means more time spent on fees and costs disclosure issues but it is far from ASIC’s aim to drive industry and consumers to focus only on fees and costs – we are aware that other information is also important.

Once the review is complete, we will carefully consider experts’ recommendations and, if necessary, make adjustments to the regime.

We want to do what we can to make the Australian fees and costs disclosure regime clear for industry while meeting the overriding need to achieve better outcomes for consumers.

Jane Eccleston will discuss ASIC’s RG 97 Review at the 2018 Investment Magazine Investment Operations Conference, to be held on February 20, at The Westin, Sydney. For details, visit investmentoperations.com.au

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SIDE BY SIDE

FINDING OUR PURPOSE The Wayside Chapel challenges corporate leaders everywhere to combine business discipline with social objectives to make a positive impact. It can be done.

MICHAEL TRAILL CHAIR | GOODSTART EARLY LEARNING and DIRECTOR | SUNSUPER

I WAS INVITED to speak recently at a unique one-day forum hosted by the Wayside Chapel, a highly respected nonprofit providing care and life pathways for the homeless.

The event, called Side by Side, challenged us all to think more deeply about our common humanity and the role of the funds management industry in contributing to the social fabric of the Australian community.

Speakers were asked to share their thinking and insights on how the finance industry could make a difference. We did so in front of an audience that included a diverse mix of professionals and ‘visitors’, the term Wayside uses for those for whom it cares. It was

a grounding and humbling experience.

I was particularly moved by the story of Doug, who courageously shared his own life experience and the feeling of being worthless and invisible as he battled a challenging personal background that contributed to addiction issues.

It raised questions. What, if anything, can the behemoth, $2.3 trillion super fund industry do to contribute to Doug’s opportunities to be part of the Australian community? Is the delineation between financial returns and social purpose so sharp that never the twain shall meet?

I believe not.

In the field of impact investing, there are emerging, and large-scale, examples of how financial returns can be generated that would satisfy the expectations of the investment committees of superannuation funds and also deliver sustained and meaningful social impact.

As chair of Goodstart Early Learning, the largest provider of early learning and care in the country, I shared with Wayside’s forum the history of the capital raising that brought this unique socialpurpose entity to life.

Goodstart emerged out of the ashes of the bankrupt ABC Learning chain. It sourced $165 million in debt capital to buy the business from the receiver in 2010. The annual return on the lower-ranking debt in this deal was 12 per cent.

Founded by four non-profit

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organisations, Goodstart is run explicitly with business disciplines for social purpose, with a board and senior management team that reflect the balance of skills required.

Surpluses are reinvested to drive improved quality learning and care in Goodstart’s 652 centres, with a particular focus on communities of exclusion and disadvantage.

As with Goodstart, the return parameters for this transaction are firmly within the range that would be regarded as prudent and reasonable in terms of risk-return balance.

LOOKING FOR MORE The challenge is to create more of these large-scale impact investing opportunities, and to ensure that we find quality

We must have the capacity to build and complete transactions in this vital asset class

WIDE IMPACT Childcare is not the only area where applying business discipline with social purpose can make a difference; for example, the increasing focus on aged care presents opportunities for impact investing.

A number of funds are being much more proactive in looking for investment opportunities in this area, and Sunsuper recently committed $200 million to enable faith-based aged-care providers, including PresCare and others, to expand its portfolio. They will do so with the ethic of care that has been their hallmark, for a client base that will include Sunsuper members.

boards and management teams to run them with business discipline connected to social purpose.

While the Goodstart transaction could not attract funding from mainstream super funds back in 2010, Sunsuper’s investment in faith-based care highlights that opportunities in what can be broadly categorised as impact investing are now drawing mainstream interest.

We must have the capacity to build and complete transactions in this vital asset class.

It has the capacity to make the kind of difference Side by Side inspired and challenged us to achieve.

investmentmagazine.com.au

UPCOMING EVENTS 20 February 2018

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14 - 16 March 2018

CONFIRMED SPEAKERS

Willis Sparks Global Macro Eurasia Group (UK)

Adam Ferrier Founder THINKERBELL

To view the program and book your tickets for either or both of these events go to aist.asn.au/events

Sarah Williamson CEO FCLTGlobal (UK)

Charlie Day & Science Australia

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A VOLUNTEERING DAY YOU CAN PUT YOUR HEART INTO The Wayside Chapel invites you and your colleagues to spend a day in Kings Cross learning about life on the streets and lending a helping hand to the most vulnerable people in our community. Come to hear about lived experiences of homelessness, learn about local social issues, and cook and serve a lovingly prepared meal.

Youâ&#x20AC;&#x2122;ll leave with a different perspective of the people you pass in the street, and a whole lot of love.

an AWAYSIDE day A TEAM EXPERIENCE LIKE NO OTHER

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