The purpose of superannuation

Sir Anthony Mason, patron of the SMSF Professionals’ Association of Australia (SPAA), recently commented that: “Superannuation is about saving for the future; it is not about risk-taking”.

It’s a pertinent remark but if the statistics are any guide the message is still not getting through.

According to APRA, the default asset allocation by pension funds last year was 51 per cent to domestic and international shares, 8 per cent to cash, 15 per cent to domestic and international fixed interest, 9 per cent to property and 16 per cent to other assets.

These numbers mean that the default pension strategy contains a 60 per cent allocation to the higher-risk, growth investments of shares and property and just a 24 per cent allocation to defensive cash and fixed interest. 

While the composition of the 16 per cent in “other assets” is unknown, if we split that evenly between defensive and growth assets we derive a 68 per cent growth and 32 per cent defensive allocation.

So for most Australian superannuation funds, a more accurate statement would be: “Superannuation is about risk taking; it is not about saving for the future.”

This raises the question of whether our default allocations to growth assets are too high and are putting our savings at excessive risk.  

I believe that getting the allocation wrong is one of the biggest threats to our future retirement plans.

While growth assets should deliver higher returns over the longer term they also show greater volatility and an increased chance of loss when compared to defensive assets.  

Those about to retire late 2007 and overweight growth assets felt the brunt in the correction of global financial markets, in many cases losing 40 per cent or more of their superannuation nest egg. Losses of that magnitude close to retirement are a significant threat. The average 65 or 70 year old simply does not have eight to ten years or more to wait for a correction.

Defensive assets, while offering lower returns, have certainty over income and repayment of capital at known maturity dates. An age-appropriate allocation with a reduced exposure to growth assets will help protect capital and ongoing income providing the certainty many retirees are seeking.

Most defensive allocations are overweight cash yet current returns are excessively low.

The solution to this is simple. Bonds are the next best investment to cash in that they also have known income and repayment at maturity but importantly they offer significantly higher returns than cash for a minimal increase in risk. There are specific bonds that protect against falling interest rates, others that protect against rising interest rates and importantly for investors in or near retirement, there are also bonds that protect against inflation.

It’s important to minimise risks to assets that need to deliver a minimum income that you need to live well.

The qualifications for a pension look set to harden, so it makes sense to allocate a greater proportion of your superannuation funds to defensive assets that will provide certain returns that allow you to self fund retirement with confidence.