How MySuper will shake up Australian fund management

Cerulli Asia Pacific Edge, October 2011

Australia’s fund management industry is gearing up for a major change to the superannuation system – one of the largest pension fund pools in the world, with over A$1.3 trillion under management. From 2013, a new default fund format called MySuper will become the norm – a low-cost, no-frills fund that people will be automatically put into if they make no other selection.

MySuper is one of the biggest outcomes of the Cooper Review, a comprehensive study of the superannuation industry which was released in July 2010 and carried 177 detailed recommendations (another outcome was Superstream, which simplifies back office processes). The driver behind it is simplification in order to reduce fees. As Prime Minister Julia Gillard put it in her open letter to the nation explaining the policy: “Every dollar diverted in fees or other unnecessary overheads is a dollar less going towards a larger and more secure retirement.”

A MySuper product will have no entry fees, exit fees limited to cost recovery, no hidden fees or commissions, a single investment strategy set by the trustee, standardised reporting, and a duty requiring super fund providers to deliver value for money or lose their licence. Fund trustees will have to apply for a separate licence from the Australian Prudential Regulatory Authority (APRA) in order to offer a MySuper product.

But what does it mean for super funds, and underlying fund managers? Super funds will still be able to offer a range of different products, and won’t have to offer a MySuper product, but if they don’t, then nothing they offer will be eligible to operate as a default fund. In other words, people would have to make an active choice to move their money to them. People can still opt for self-managed super funds, or anything else they currently use; MySuper is all about the people who don’t make a choice or express a preference.

But there’s still plenty we don’t know for sure. The government has conducted a period of consultation, now closed, in which industry participants have had a chance to voice concerns and suggestions, but we do not yet have an announcement on the outcome of that consultation period. For example, in draft suggestions, the Australian Treasury (the equivalent of a finance ministry in most countries) says every MySuper product will have to have a single diversified investment option, but that the government will consider allowing trustees to offer a life cycle, or life stage, investment strategy as that option. That would mean allowing the trustee to automatically alter the investment asset allocation of members based on their estimated number of years to retirement, with higher risk and higher growth strategies early in a client’s life, and more conservative strategy based on preservation closer to retirement. It remains to be seen if that strategy survives the consultation process.

For underlying managers, one relevant element will be new standards around the payment of performance fees to fund managers – again, something that is undergoing consultation now. In consultation documents, the Treasury noted that performance fees are argued to align interests of members, trustee and investment manager, but also said it had concerns with the current structure of performance fees, such as inappropriate hurdle rates “that result in payment of performance fees for average performance.” One of the issues the Treasury asked for feedback on was whether to apply a principles-based or prescriptive approach in setting performance fee standards – but whatever form they take, change is clearly coming.

The prize is great. As of March 2011, there were A$1.357 trillion in Australian superannuation assets under management, including $370.3 billion of retail-offer superannuation funds (which, in their own right, represent 65% of the entire retail fund marketplace). According to APRA, 44.9% of superannuation funds were in default strategies as of June 2010; if that remains consistent, then MySuper products are going to represent half the market and many hundreds of billions of dollars of assets.

At the same time, though, they’re also going to reduce the profitability of super funds (not all of which exist to generate a profit, but many – the commercial funds from backers like Colonial First State, BT or AMP – most certainly do) and potentially of underlying fund managers too. The emphasis in Australian superannuation today is the constant squeezing of costs and fees; if that’s happening at the super fund trustee level then it’s also going to be passed down the chain in mandates they give to managers.

It’s likely, though, that some super funds will seek to differentiate themselves based on quality, hoping to demonstrate that by paying a bit more in fees, clients can expect better returns. Most will offer a range of options: existing funds, and a MySuper compliant vehicle, as the assets at stake are too big to contemplate not launching such a product at all.

The changes are unlikely to make much difference to distribution, since MySuper is all about people who don’t seek out an avenue to invest in the first place. For super trustees, their immediate priority will be to hang on to the assets they’ve already got, firstly so that people who don’t express a choice can stay in their default product, and secondly so that they don’t witness a period of outflows to better-marketed or better-performing other products. It should be said that people can certainly make a choice to enter a MySuper product, and in an era in which fees are being painted as rather bad things, that may well be a popular approach. In that respect, we can expect a period of intense marketing from super funds, just as we did when the ‘choice of super’ initiative was implemented and many industry funds were opened to anyone who wanted to invest in them for the first time.

One group quite likely to benefit is passive managers such as Vanguard, since any attempt to keep fees low and strategies simple invites the prospect of an index-based exposure to various asset classes for a large part of the fund. We could, too, see fund trustees using ETFs for some of their exposure – whether by directly purchasing them on the stock market, or through a mandate that behaves a lot like an ETF. Logically high-fee, high-conviction products should lose out, although it may well be that trustees find a core-satellite approach cost-effective, with passive allocations for most of the fund and some more active mandates around the edges to generate a bit of lift.

Having published its various consultation papers in March, the Treasury is now working through the submissions; Minister for Financial Services and Superannuation Bill Shorten is expected to make an announcement in coming weeks, with the final terms and conditions of MySuper expected to be clear by the end of the year. Then there will be a clear starting line for fund trustees and fund managers to start getting ready for 2013 – one of the biggest ever changes in one of the most powerful pools of capital in the world.