The FASEA Code of Ethics Standard is now in force as of 1 January 2020, and the challenge for advisers is not just to pass the exam but also to make the necessary changes to their business practices.

According to leading research house Lonsec, the Code now requires advisers to demonstrate that they are acting in their client’s best interest while avoiding even a ‘perception’ of conflicted recommendations.

“For advisers the FASEA standards are no longer an intellectual exercise. Despite the practicality issues, they are now the yardstick against which they will be judged by regulators, clients and the community,” said Lonsec CEO Charlie Haynes.

“The reality is that the only way an adviser can comply with the standards effectively and efficiently is to access quality investment research and technology tools that enable them to provide detailed product comparisons across all asset classes, including superannuation funds and investment options.

“This goes to the heart of Standard 9 of the Code of Ethics, which requires advisers to make recommendations with competence.”

Lonsec also foreshadowed that conflicted remuneration, even if an adviser considers it to be minor, manageable, or largely irrelevant, could put licensees in breach of the standards.

Standard 3 of the FASEA Guidelines states that an adviser is in breach “if a disinterested person, in possession of all the facts, might reasonably conclude that the form of variable income could induce an adviser to act in a manner inconsistent with the best interests of the client.”

This means that all conflicts, even a preference to use an in-house practice or dealer group product, could be viewed as an inducement to act in a way that isn’t in the client’s best interest.

“Avoiding even perceived conflicts is now a requirement for advisers, so practices should strongly consider moving to a conflict-free environment to safeguard their position,” said Mr Haynes.

“Lonsec is now offering to solve this and help advisers moving forward by acquiring the investment management rights from existing portfolios and to manage the investment process on behalf of the adviser without ongoing conflict.”

Standard 6 also raises the bar for advisers, stating: “Where your clients indicate they only wish to invest in ethical or responsible investments, you will need to consider whether limiting your product recommendations in this manner is appropriate.”

According to Lonsec, meeting this standard means going beyond recommending branded ‘ethical’ products to understanding exactly what the product invests in and whether this indeed aligns with the client’s expectations.

“Advisers now have a legal responsibility to ensure their client’s preferences are taken into account,” said Mr Haynes. “For example, if the client doesn’t want fossil fuels in their portfolio, simply recommending an ESG product probably won’t be sufficient from now on. The adviser needs to have a complete understanding of the product’s underlying investments and its process.

“That’s why Lonsec is introducing a new sustainability rating and will provide data on how individual investment products stack up against the United Nation’s 17 Sustainable Development Goals. We want to give advisers all the tools and information they need to deliver advice that they can clearly demonstrate meets the FASEA standards and their best interest duty.”

The outbreak of the coronavirus in over 28 countries has sent shockwaves through global financial markets over the past fortnight with increasing levels of uncertainty and misinformation evident across a number of regions. While there are many unknowns regarding this outbreak, there is likely to be continued disruption to economic activity ahead, which is unlikely to subside until the outbreak is brought under control.

The impact of the coronavirus on equity markets is likely to be multi-faceted with the potential to impact earnings across a numbers of sectors over 2020. While Asian equity markets are likely to take the brunt of the initial impact, the effects are likely to be felt across global markets, noting that previous outbreaks over the last two decades have resulted in short–term equity market corrections within a range of 5-15%.

Implications on the Australian equity market

From an Australian equities perspective, we are likely to see earnings outlook downgrades across a number of sectors, at a time of elevated valuations and a sub-par growth outlook, particularly as we head into the February reporting season. While earnings across the Healthcare, Consumer Staples and Infrastructure sectors should be relatively immune to recent events, based on Lonsec’s initial estimates, 2020 earnings estimates for the Resources (Energy, Iron Ore and Copper), Tourism/Travel and Consumer Discretionary sectors are likely to see significant one-off earnings revisions, capturing the impact of the coronavirus outbreak and the recent bushfires across Australia. However, such downgrades are unlikely to impact the long-term investment thesis for most companies and should be regarded as short-term headwinds, reflecting a series of one-off unfortunate events.

Lonsec’s asset allocation views

From an asset allocation perspective, Lonsec’s multi-asset portfolios remain very well diversified with only a small direct exposure to Chinese equity and bond markets. Consequently, our current focus is on the flow on effects that a sustained slowdown in Chinese growth may have on the domestic growth outlook given our close trading ties. As previously noted, our valuation indicators for Australian equities remain elevated, making them susceptible to a pullback should Chinese authorities’ attempts to stabilise growth fail. We have maintained our slight underweight positions in both global and Australian equities for the time being, however continue to monitor events closely.

While there is a high degree of uncertainty regarding the coronavirus outbreak, Lonsec notes that this event does pose a long “tail risk” for global markets should the outbreak get out of hand. These factors make it a challenging period for investors, where factors other than fundamentals are having a material impact on the trajectory of markets. In such an environment, we believe selective valuation opportunities will present themselves for long-term investors, however ensuring that your portfolio is diversified will be very important in navigating an increasingly volatile market environment.

The Australian Health Care sector has had another stellar year, with the S&P/ASX 200 Health Care Index providing a substantial 43.5% total return over 2019. This was substantially higher than the still impressive 23.4% return provided by the broader S&P/ASX 200 Index. These strong health care returns were largely due to impressive earnings growth being recorded by some larger names such as CSL Limited (CSL) and Resmed Inc (RMD), up 50.8% and 39.3%, respectively. In addition, recent interest rate cuts globally in the face of a more challenging economic outlook has added fuel to the rally as health care is seen as having structural growth drivers that have a lower correlation to the economic cycle.

However, consistent with such a strong rally in share prices, valuations in the sector now appear full versus longer-term trends. This confluence of strong earnings performance with full valuations should provide investors with a reason to pause and assess the risk-adjusted returns available to them going forward. But to do so, it is critical that investors develop a deeper understanding of the bottom-up fundamentals of the health care companies themselves. While the outbreak of the Coronavirus is unlikely to have a direct effect on Australia’s health care names, a risk-off environment could see investors attracted to the defensive characteristics of the sector.

A review of consensus estimates on a 12-month forward basis quickly establishes that the market is firmly of the belief that the fundamentals for the Health Care sector remain robust. Current consensus estimates are for top-line sales growth of 7.7% and even stronger earnings growth of 16.4% due to the operating leverage inherent in these companies. These top and bottom-line estimates are well ahead of the broader market, with the S&P/ASX 200 Index consensus estimates being for both top-line growth and earnings growth of around 2.7%.

However, this above trend growth comes with a hefty price tag. The forward price-to-earnings (PE) ratio for the S&P/ASX 200 Health Care Index is 40.6x, well above the 17.3x for the S&P/ASX 200 Index. In fact, by our estimates the current PE ratios for both CSL and RMD are currently two standard deviations above their 10-year harmonic means, and Cochlear Limited (COH) is one standard deviation above. This is also reflected in the current dividend yield projections, with the consensus yield (pre-franking) being a meagre 1.4%, again well below the market yield of 4.3%.

Then again, with the sector return on equity (ROE) projections being a healthy 18%, there’s a strong argument that health care investors are well served by boards reinvesting capital rather than paying it out as a dividend.

Health Care Sector 1-Year Forward Outlook


Source: Thomson Reuters, Lonsec Research

The Australian Health Care sector is dominated by CSL, with its market cap of around $128 billion, making up over 60% of the Health Care Index’s $208 billion capitalisation. This concentration in CSL only grew stronger over 2019 as its performance outpaced most of its peers. CSL has benefitted from strong global demand for its plasma products, especially in the US and increasingly in China. CSL is benefiting from an ageing population, increased development and spending on rarer diseases, and a unique ability to source their own raw material ‘plasma’ via an array of collection centres throughout the US.

This has been complemented by the acquisition of flu vaccination supplier Sequirus, which CSL has transformed from a loss-maker into a business with an expected EBIT of $200 million in FY20. Given this backdrop, CSL is likely to continue to benefit from a prolonged earnings upgrade cycle as seen by its sector leading EPS consensus growth target of 19.2% for FY21. Investors, however, will be required to pay up for it with a forward PE of 46x.

The broader Health Care sector is rounded out by a range of large-to-mid-cap medical device and medical service companies as well as an emerging tail of bio-tech companies which have strong runways for growth but are at an earlier stage of their development. Medical device companies such as COH and RMD have enjoyed earnings upgrade cycles, benefiting from strong investment in R&D and increased market penetration.

These factors are expected to continue, with consensus estimates being for EPS growth of 10–20%. This compares to the medical service providers such as Ramsay Health Care Limited (RHC) and Sonic Healthcare Limited (SHL), which have more subdued growth expectations (4–6%) due to regulatory and consumer preference risks. Nonetheless, these providers are still expected to be long-term beneficiaries of an aging population. Despite this slightly different earnings profile, both these sub-sectors are trading on a forward PE well above the market. However, due to the relatively stronger EPS trajectory, the medical device entities are trading at much higher multiples which are more commensurate with CSL.

The Australian Health Care sector has provided investors with very strong investment returns over the last year driven largely by earnings growth above the broader market due to positive structural tailwinds. The Australian segment is also demarcated by companies such as CSL which have strong corporate cultures which emphasise product innovation and operational excellence, factors which continue to provide them with a competitive edge globally. However, the strong earnings upgrade cycle in a ‘low growth’ world has seen very strong investor interest leading to valuations being stretched. Also, the sector is not homogenous with sub-sectors having different earnings profiles and risks. This mix of strong fundamentals with stretched valuations will continue to make an investment in Health care stocks more suited for investors with longer investment horizons.

Trump’s bombastic and provocative approach to the trade war has culminated in a tumultuous two years for capital markets. Sudden increases in tariffs have been followed by back downs, bravado has given way to overtures, and severe selloffs have been succeeded by relief rallies. However, it has been this ongoing uncertainty which Trump’s political success hinges on as his negotiating style has leveraged the following maxim: escalate and then negotiate.

While the negotiation of a ‘phase one’ deal represents a considerable win for Trump, the unavoidable reality is that the trade war has been costly, and the economic toll continues to mount. It’s unclear whether the proposals outlined in the phase one agreement will cover this cost, particularly given the difficulty involved in calculating the indirect effects of US tariffs and China’s retaliatory measures, which have contributed to waning business investment and consumption.

The remaining tariffs and commitments to purchase additional agricultural products should appease the China hawks, but the currency pledges are similar to those already agreed to under the G20 pact. Further, the commitments pertaining to intellectual property theft and forced technology transfers appear similar to China’s obligations under their foreign investment regime implemented last year.

As always, the devil is in the detail. Trump will be under mounting pressure to deliver more meaningful results in the subsequent phase two negotiations, due to take place after the presidential election in November 2020. For the last two years, global markets have delicately traversed thorny trade issues, and with markets now topping record highs, any negative news is likely to significantly depress global share indices.

Looking at recent drawdowns, which can be used as a barometer for the aggression demonstrated by each side, it’s clear that the pullback in early 2018 represents the initial flare-up between the two powers as the tariff regimes commence and the Twittersphere works itself into a frenzy.

While mild acts of hostility pervaded 2018, it wasn’t until the fourth quarter when both countries imposed a plethora of tariffs in concert with the US Fed’s attempts to normalise monetary policy and deploy quantitative tightening. This incited a severe wave of panic selling in conjunction with the aptly-named ‘bond-cano’. The final noteworthy drawdown is evident in mid-2019, when the ceasefire abruptly ended once again in response to China purportedly reneging on past trade commitments, launching global indices into freefall.

S&P 500 TR Index drawdowns, January 2018 to December 2019


Source: Financial Express, iRate

Trump has frequently cited the S&P 500 as a proxy for the success of his presidency, and notwithstanding the turbulence experienced in 2018, this has proved to be one of his defining accolades. Since the end of 2016, the market’s cumulative return has edged close to 60%, providing a boon to passive investment strategies.

“If the Dems (Crooked Hillary) got elected, your stocks would be down 50%” – @RealDonaldTrump

The cynics will argue that Trump opportunistically deployed tariffs to stymie economic growth and force the ‘Powell-Put’ in early 2019 in order to reignite a languishing stock market. Consequently, this about face from Powell to a more accommodative monetary policy stance precipitated a significant reversal for risk assets, powered global stock indices to new highs, and set Trump’s twitter feed ablaze.

S&P 500 TR Index cumulative returns, January 2017 to December 2019


Source: Financial Express, iRate

“My only question is, who is our bigger enemy, Jay Powel or Chairman Xi?” – @RealDonaldTrump

Trump’s detractors assert that his tariff regime was part of a cunning ploy to pressure the US Federal Reserve to aggressively ease monetary policy to counter flagging economic growth. Unfortunately for the bystanders, the trade war spurred a synchronised global slowdown and left the global economy on the precipice of a recession. Auspiciously for Trump, the Fed eventually embarked on an easing cycle, which aside from producing the ‘Trump bump’ in the stock market, sparked an insatiable thirst for fixed income securities.

US 10-yr Treasury Yield Rolling Returns (%) – Jan 2018 to Present


Source: Financial Express, iRate

“The Fake News Media barely mention the fact that the stock market just hit another new record” – @RealDonaldTrump

Trade is still the market’s biggest unknown

The genesis of the sino-yankee trade dispute lies with America’s historical trade deficit with China, the alleged theft of intellectual property, and manipulation of the Chinese Yuan. Despite how polarised American politics is, across the political divide there is widespread support for tariffs to reduce the domestic trade deficit and protect domestic industries. China’s admission into the World Trade Organisation (WTO) and ascent to a global trading powerhouse is seen to come at the cost of American manufacturing jobs and resulted in the hollowing out of the middle-class in the rustbelt of America, which is where much of Trump’s support comes from.

Moreover, the US ban on technology produced by the Chinese technology behemoth, Huawei, played into the theme of suppressing Chinese ingenuity. Importantly, a concerted effort has been made to insulate the American consumer from the brunt of the tariff regime as best as possible through primarily targeting industrial goods rather than consumer items. However, conflicting evidence suggests that US businesses and consumers have equally borne the financial brunt of the tariff regime through inflated end-prices.

“China has been ripping this country off for 25 years” – @RealDonaldTrump

China’s retaliatory measures have been predictable and were designed to inflict as much carnage as possible on the US agricultural, chemical and automobile sectors at the heart of Trump’s support base. These targeted measures intentionally weaken the economic interests of Trump’s forgotten class of export-dependent workers, whose grievances he leveraged in the 2016 election following decades of automation and globalisation.

The political objective is to compromise Trump’s re-election prospects in 2020 and force his arm into offering more amicable concessions. Reinforcing this effort is the fact that US exports to China are largely undifferentiated commodities that can be substituted elsewhere. However, Trump’s adversarial negotiating style led Chinese President Xi into a war of attrition, leaving both sides unrelenting in their demands up until the recent phase one agreement.

Unfortunately, this is not the end of the trade issue. While the US has achieved a substantial narrowing of the trade deficit from US$419 billion in 2018 to US $320 billion in 2019, the efficacy of weaponising tariffs to enforce compliance from trading partners is murky. The uncertainty pervading the economy has largely dissipated for now, thereby strengthening Trump’s mantra on growth and prosperity for the ‘deplorables’, while the Democrats are distracted by likely meaningless impeachment proceedings.

The trade war remains a live issue even if Trump prefers to leave further negotiations until after the election. After that, a phase two negotiation will test the US administration and the markets unlike anything we saw in 2019, which spells further volatility for markets. Is Trump playing a dangerous game or does he have 2020 vision?

“Trade wars are good, and easy to win” – @RealDonaldTrump

For consumers, 2019 was a year best forgotten as negative economic news created an almost perpetual drag on sentiment and global uncertainty resulted in repeated bouts of volatility. But for investors, including Australia’s 15 million super fund members, it was a year that saw a sizeable accumulation of wealth, driven by share market gains as well as some savvy investment decisions by the top-ranking funds.

Even with the high expectations set during a year that saw share markets rally ever higher, several super funds were able to translate this favourable environment into exceptional gains for members.

Topping the leader board in 2019 was UniSuper, whose balanced option delivered a return of 18.4% over the year and is among the top performers over 10 years with a return of 8.9% per annum. Over one year, UniSuper was followed by AustralianSuper – Australia’s largest fund – which returned 17.0% in 2019 and 9.0% over 10 years. However, it’s Hostplus that remains in first place over 10 years with an annual return of 9.2%.

Top 10 balanced options (return over 1 year)


*Interim return
Source: SuperRatings

Top 25 balanced options (return over 10 years)


*Interim return
Source: SuperRatings

UniSuper came out on top in a crowded field, in which the top 10 funds delivered an average return of 16.3%. It was a tight race over longer time periods, and while markets have certainly provided a tailwind, there’s no doubt that skilful management plays a role in squeezing out additional returns.

While returns may appear narrowly spread at the top, this hides some significant differences in asset allocation and investment strategies pursued by different funds. What was interesting to see was the diversity of approaches that funds take, even at the top of the leader board. While most funds have benefited from strong equity markets, the nuances among the top performers are where there has been strong value added for members.

In the case of UniSuper, the fund continues to pursue an active management strategy with exposures predominantly to Australian and International Equities, as well as significant cash and fixed interest exposures. Allocations to illiquid assets such as infrastructure and private equity are not a key component of their strategy.

Meanwhile, Hostplus has significant allocations to illiquid assets, with these being a key driver of its performance outcomes for Property, Infrastructure and Private Equity assets. AustralianSuper has also benefited from material unlisted asset exposures, as well as fee savings generated from its in-house investment structure.

Top pension funds

One of the key challenges super funds face is the current low-yield environment, which is making it harder for funds to generate income for members. This challenge is likely to be felt more acutely by those in the post-retirement phase, who rely on the income generated by their pension product to fund living expenses.

In this environment, picking the right pension fund and option can be critical. The below chart shows how capital stable pension options (20–40% growth assets) stack up over 10 years, and while there is some dispersion in the results, every option in the top 25 by performance exceeded the typical CPI plus 3.0% target. AustralianSuper’s Stable option is the best performer, returning 7.6% p.a. over ten years, followed closely by TelstraSuper’s Conservative option and Hostplus’s Capital Stable option.

Top 25 capital stable pension options (return over 10 years)


Source: SuperRatings

Understanding risk is critical for consumers

Most consumers can’t define risk, but they know it when they experience it. For superannuation members, risk can mean the likelihood of running out of money in retirement, or not having enough cash to pay for holidays, car repairs, or an inheritance for their kids.

For young members starting out in the workforce, short-term market falls might not matter too much because their investment horizon is relatively long. But for members nearing retirement, the timing of market ups and downs can have a significant effect on the wealth they have available in the drawdown phase.

For a young worker with a relatively low super balance, being exposed to riskier assets is less of a problem – in fact, it can help them accumulate wealth over their working life. However, for members approaching retirement (aged 50 and over), an unexpected pullback in the market can mean the difference between living comfortably and having to cut back in order to get by.

For this reason, it’s important to consider not only the return that a fund delivers but also the level of risk it takes on to achieve that return. In this context, risk means the degree of variability in returns over time. Growth assets like shares may return more on average than traditionally defensive assets like fixed income, but the range of return outcomes in a given period is greater.

The table below shows the top 25 funds ranked according to their risk-adjusted return, which measures how much members are being rewarded for taking on the ups and downs.

Top 25 balanced options based on risk and return

Fund option name 7 year return (% p.a.) Rank
QSuper – Balanced 9.1 1
CareSuper – Balanced 9.8 2
Cbus – Growth (Cbus MySuper) 10.3 3
Hostplus – Balanced 10.5 4
BUSSQ Premium Choice – Balanced Growth 9.6 5
Sunsuper for Life – Balanced 10.0 6
Catholic Super – Balanced (MySuper) 9.4 7
HESTA – Core Pool 9.6 8
CSC PSSap – MySuper Balanced 9.0 9
MTAA Super – My AutoSuper 9.5 10
Media Super – Balanced 9.4 11
Intrust Core Super – MySuper 9.8 12
AustralianSuper – Balanced 10.5 13
Mercy Super – MySuper Balanced 10.0 14
Rest – Core Strategy 9.0 15
First State Super – Growth 9.7 16
QANTAS Super Gateway – Growth 8.3 17
TWUSUPER – Balanced 8.8 18
Energy Super – Balanced 9.3 19
Local Government Super Accum – Balanced Growth 9.0 20
AMIST Super – Balanced 8.9 21
VicSuper FutureSaver – Growth (MySuper) Option 9.8 22
Club Plus Super – MySuper 8.9 23
NGS Super – Diversified (MySuper) 8.9 24
LGIAsuper Accum – Diversified Growth* 8.9 25

Risk/return ranking determined by Sharpe Ratio
*Interim return
Source: SuperRatings

QSuper’s return of 9.1% p.a. over the past seven years is slightly below the average of 9.7% across the top 10 ranking funds, but it has the best return to risk ratio of its peers, meaning it delivered the best return given the level of risk involved. Funds such as CareSuper, Cbus and Hostplus were able to deliver higher returns, but for a slightly higher level of risk.

Super funds are on track to finish 2019 with the strongest returns in years, defying fears of a market fade in the final quarter. While market conditions have been challenging, investors have not yet succumbed to the negative economic headlines, which has been good news for super funds.

If momentum holds up through the rest of the year, members in the median balanced option will be looking at an annual return of around 15.0% for 2019 – a result not seen since 2013.

According to leading research house SuperRatings, funds have done a good job of managing uncertainty, which has only been exacerbated by global risks and challenging economic conditions at home. But while consumers are feeling the pinch, their super is holding up well.

A rebounding share market saw the ASX 200 Index return 3.3% in November, putting Australian shares on track to deliver a return of around 26.0% for 2019, which would be the highest investors have seen since 2009. This is despite weakness from the major Financials sector, which slipped 2.0% over the month as the major banks were marked down due to the lower interest rate outlook, while Westpac (-13.1%) was the latest to be hit with negative headlines.

Looking at November’s results, the median balanced option returned an estimated 2.0% over the month, with Australian shares contributing 0.6% and international shares 1.0%, bringing the year-to-date return to 14.8%. The median growth option delivered an estimated 2.3% over the month, bringing the year-to-date return to 17.2%.

Over the past five years, the median balanced option has returned an estimated 7.9% p.a., compared to 8.7% p.a. for growth and 4.9% p.a. for capital stable (see table below).

Estimated accumulation returns (% p.a. to end of November 2019)

YTD 1 yr 3 yrs 5 yrs 7 yrs 10 yrs
SR50 Growth (77-90) Index 17.2% 15.2% 10.5% 8.7% 10.4% 8.6%
SR50 Balanced (60-76) Index 14.8% 13.4% 9.3% 7.9% 9.3% 8.0%
SR50 Capital Stable (20-40) Index 8.3% 8.5% 5.5% 4.9% 5.4% 5.6%

Source: SuperRatings

Pensions products have similarly performed well over the course of 2019, with the median balanced pension option returning an estimated 16.3% year-to-date to the end of November, compared to 19.6% for growth and 9.6% for capital stable.

Estimated pension returns (% p.a. to end of November 2019)

YTD 1 yr 3 yrs 5 yrs 7 yrs 10 yrs
SRP50 Growth (77-90) Index 19.6% 17.1% 11.5% 9.9% 11.7% 9.6%
SRP50 Balanced (60-76) Index 16.3% 14.9% 10.0% 8.5% 10.2% 8.8%
SRP50 Capital Stable (20-40) Index 9.6% 9.4% 6.3% 5.7% 6.2% 6.4%

Source: SuperRatings

“We may not have seen the ramp up in shares before Christmas that some were hoping for, but it’s still safe to say that 2019 has been a highly successful year for super funds and their members,” said SuperRatings Executive Director Kirby Rappell.

“It’s been a nervous year for investors, so it’s great to see that super can deliver some much-needed stability and solid returns during this period. There might not be a lot of positive economic news at the moment, but at least super is one story we can all draw some hope from.”

“Since the Royal Commission’s final report at the start of the year, super funds have fought hard to restore members’ trust in the system. We’ve seen good funds responding proactively to the changing regulatory landscape, which has been pleasing. We expect to see an increase in fund mergers in 2020, but it’s important that regulatory responses don’t move us towards a one-size-fits-all approach, which could be detrimental to member outcomes.”

Members must look beyond raw returns

Everyone agrees that funds that aren’t delivering for members have no place in the super system. However, focusing purely on returns as a measure of a fund’s success ignores a range of factors, not least of which is the level of risk involved in generating that return.

As the chart below shows, there is a significant dispersion of risk and return outcomes among different funds. Looking at how balanced options compare over the past five years, there are some producing higher returns than the median option, but many are producing these higher returns by taking on a higher level of risk (measured as the standard deviation of returns).

Risk and return comparison – Balanced (5 years to 30 November 2019)

Risk and return quadrant - Balanced

Source: SuperRatings

When assessing investment performance over time, the top-left quadrant (higher return for lower risk) is what members should generally aim for. Similarly, the bottom-right quadrant (lower return for higher risk) represents the laggard funds. Over any given time period, there will always be funds that outperform and those that underperform.

Looking at past performance can be useful when picking the right fund, but it shouldn’t be the sole criteria. For one thing, past performance is no guarantee of future performance, but there are many factors members should take into account when assessing a super fund, including insurance, governance, member services, and of course fees.

Markets continued their upward trajectory in November. When you look at the returns across key asset classes over the last 12 months most asset classes have generated double digit returns. Growth assets such as equities and listed real assets generated over 20% for the year ending 30 November, while bonds generated high single digit to double digit returns. This has been a great outcome for investors and certainly well above Lonsec’s long-term expected returns for asset classes.

Part of what has fuelled these high returns, post markets getting the wobbles after the US yield curve inverted in August, can be attributed to markets pricing in the avoidance of a recession and the expectations of a potential recovery in growth. We have witnessed such ‘mini-cycles’ in the past, in 2013 and 2016, however what is different this time is that EPS growth is more muted and other factors which contributed to previous mini-cycles, such as the US or Chinese fiscal stimulus, are less likely to have an impact.

So what does this mean for markets? We think markets may experience a short-term upswing as the ‘mini-cycle’ plays out. We have therefore slightly adjusted our dynamic asset allocation tilts deploying some of the excess cash in our portfolios towards Australian equities. Our overall asset allocation continues to have a defensive skew with the objective of diversifying the portfolios by asset type and investment strategy. This positioning reflects our broader view that asset prices are stretched and that while some economic indicators have stabilised, we believe we are closer to the end of the cycle.

In recent years it seems that market sentiment is shifting more rapidly than ever. We saw this earlier this year when the US Federal Reserve flipped on its monetary stance from a tightening stance to a “let’s take pause and see how things pan out” position.  In August we saw the yield curve invert meaning that long-term bond yields were lower than short-term bond yields. The most common measure of this is the difference between 2 and 10 year government bond yields. Markets reacted negatively to this as an inverted bond yield is typically an indication that investors are concerned about the economy. It has also been a good predictor of a looming recession with an inverted yield curve preceding every US recession since the 1970s. Interestingly, the time between the yield curve inverting and a recession is highly variable and equity markets have historically performed strongly until a recession has hit. For example, in 1988 the S&P 500 rose by over 30% prior the recession and in 2006 it rose approximately 16%. The yield curve has since steepened and is no longer inverted. So does this mean we are out of the woods?

From our perspective the economic news is mixed. Indicators such as manufacturing data have been trending down, however housing has been strong in the US and has improved in Australia. Consumers are also holding up in the US. Geopolitics continue to be an X-factor with news regarding US – China trade talks continually shifting, whilst the prospect of further quantitative easing is certainly plausible. From a bottom-up perspective, many of the professional investors Lonsec speaks to are indicating that they don’t expect a recession within the next 12 months but over a 2 year timeframe the risk of recession rises.

Amidst this uncertain backdrop, from an asset allocation perspective we have retained our slight defensive bias holding a greater exposure to real assets and focusing on diversification via uncorrelated assets such as alternatives.

Financial advisers are operating within a paradox. On the one hand, the industry is still reeling from the blow of the Royal Commission and the high levels of mistrust within the community towards the financial services sector. On the other hand, there’s every sign that demand for quality financial advice is growing – to the extent that some advisers may find themselves on the back foot when it comes to putting in place the necessary capabilities to deliver tailored advice solutions.

It seems that, if anything, the media coverage of the Royal Commission has only raised in people’s minds the inadequacy of their own financial knowledge when it comes to managing and growing their wealth. According to the most recent survey conducted by ASIC in August this year, 79% of participants agreed that financial advisers had expertise in financial matters that the participant did not have. Even after being exposed to the negative headlines, 75% agreed that financial advisers could recommend products that they normally could not find on their own, and 73% agreed that advisers could introduce them to good ideas they might not have thought of on their own.

So the need and desire for financial advice remains in place, but consumers still face a knowledge problem when it comes to finding an experienced adviser who they believe can genuinely help them achieve their objectives. It’s clear that the main reason people seek financial advice is to benefit from the expertise of the adviser, who they believe can provide recommendations that will improve their financial wellbeing and help them prepare for major life events. What it comes down to is not the overall perception consumers have of financial advice, which remains positive, but the way in which they discern the quality of individual advisers.

When it comes to demonstrating quality, advisers need to be able to show clearly how their advice adds tangible value to the client. Once a positive first impression is made, advisers must then follow through on their value proposition with a roadmap for success that the client can understand and that makes intuitive sense. Breaking down what are inherently complex topics can be a challenge, but it’s critical to ensuring clients are fully engaged in the process and can see for themselves how your advice is helping them build their wealth and meet their objectives. High-quality investment research can play a key role in supporting this process by giving advisers the information, visual data, and easy-to-use reporting tools they need to have deeper conversations that speak directly to their clients’ needs.

The Royal Commission has not spelled the death of financial advice, but it has made it harder for advice that can’t draw a direct link between the client’s individual needs and the investment decisions of the adviser or portfolio manager. We are entering a new age of financial advice that is seeing the role of the adviser shift from that of administrator and stock picker to someone who can deliver a holistic advice experience by showing that they have a deep understanding of their client’s position and can recommend high-quality investment products that support the client’s needs. This means having a thorough understanding of the qualitative aspects of different products, how they compare, and they can be used as part of a tailored investment solution.

The results of the ASIC survey support this, and while some of the survey findings may come as a surprise, many advisers will see this as old news. When it comes to choosing an advice provider, communication is one of the most important factors customers look for and anticipate in their interactions with advisers. Experience and reputation are obviously important, but a key differentiating factor is the way advisers talk to and engage with their clients. The ability to talk to clients in a way they can understand is just as important as an advisers reputation (38% versus 36%), while taking the time to understand their client and their goals is also one of the top attributes (32%).


Source: ASIC

What’s also interesting is that, for those respondents who had received financial advice (Group A), low cost became far less of a determining factor. For advisers who are successfully able to demonstrate the value of their advice, clients are more willing to pay because they can see how the advice they receive results in superior outcomes. That’s why it’s important to have not only high-quality investment research, but the right platform and tools that can deliver this research in a way that allows you to present complex information, including in-depth product comparisons and portfolio reports, clearly and concisely.

It’s also why we’ve continually evolved Lonsec’s iRate platform to ensure it’s more than just a place to access research, ratings and data. We give you the tools you need to get a more complete picture of your client’s portfolio, analyse and compare products across a range of qualitative factors, and demonstrate how your advice is contributing directly to their investment outcomes. For advisers looking to win the conversation game, a high-quality research provider can give them the edge they need.

Private markets have long been the domain of institutional investors. With benefits such as higher return potential, lower volatility, lower correlation to traditional listed assets, and enhanced diversification, it’s not hard to see why they are so attractive. Institutional investors such as super funds have been steadily increasing their exposure across the private market spectrum, which includes equity, real estate, infrastructure and debt.

Private markets by their nature require significant long-term commitments (in some cases capital can be locked up for ten or more years) and have significant barriers to entry given the large amounts of capital required. Both factors have traditionally made it difficult for retail investors to access the benefits of private markets, but this is quickly starting to change.

Private asset managers are exploring ways to make investing in private markets more accessible to retail investors by introducing greater liquidity and reducing minimum investment sizes. Along with slowing economic growth and the continued hunt for yield, this is making private markets an increasingly viable and attractive opportunity for retail investors and SMSFs seeking greater portfolio diversification.

Lonsec has seen an uptick in private market vehicles targeting retail investors coming to market over the last 12–18 months. Of particular note is the increased interest in private market funds (both equity and debt) being offered under ASX listed structures such as Listed Investment Trusts (LITs).  Such structures have been common in the UK and the US for some time but are a relatively new development in the Australian market.

Offering private assets through a LIT structure provides several benefits to retail investors, including:

  • The ability to create a diversified portfolio of unlisted assets with no minimum investment size;
  • Access to private markets in a more liquid investment structure, with investors able to buy and sell units via the ASX;
  • A greater focus on the long-term investment strategy. Because LITs are closed-end vehicles, managers are less concerned about funding applications and redemptions, which has the potential to boost returns compared to an open-end pooled vehicle;
  • No requirement to manage commitments to fund future investments. Capital is paid upfront and invested in the LIT from day one, so there are no additional capital calls for the investor.

However, as we all know, rarely do investors come across a free lunch, especially in the retail world. Trade-offs must be expected and managed in order to get the most value out of any asset class, and private markets are no different. When including private market assets in a portfolio, it’s important to think about the following:

Private market assets are illiquid

Private assets are by their nature highly illiquid, and investors wishing to redeem may have to do so at a discount to Net Asset Value (NAV). It’s important to treat an investment in private markets as a long-term investment, irrespective of the structure in which it’s offered. Investors wanting (or worse, needing!) to sell LIT units in periods of market stress, when many investors are heading for the door, may face significant discount to NAV. It’s important to ensure the private asset manager has policies in place for managing these discounts should they arise.

Expect some volatility along the way

Private assets offered in LITs will have a higher correlation to the broader equity market and are more volatile than traditional private asset investments. By offering private assets in a listed structure, market beta is introduced, exposing investors to swings in sentiment in a similar manner to any other security listed on the ASX. Volatility risk may also arise when units in the LIT are thinly or heavily traded, which could make the unit prices very volatile regardless of changes in the underlying value of the investments held by the LIT.

It takes time to become fully invested

Unlike traditional private assets, where commitments are drawdown over time, investors in private market LITs pay their capital upfront in exchange for units. Private asset managers don’t invest 100% of that capital immediately, but instead wait for investment opportunities to arise. Consequently, it may take between 12 months to four years to reach the target portfolio allocations. During this ‘ramp-up’ period, private asset managers will invest in other liquid assets ranging from cash through to credit or even equities. This ensures investors are generating a reasonable return or income from an early stage while the portfolio is getting set.

However, it does of course introduce other risks and exposures. It’s important to understand what assets you will be exposed to during the ramp-up phase, as this will impact your returns (and risk). You may not be getting the exposures you expected for some time.

Lonsec believes retail investors can benefit from investing in private markets, but they need to be mindful of the trade-offs when investing via listed vehicles. Retail investors’ needs are inherently different from those of institutional investors—they typically have shorter time frames, a greater need for liquidity, and smaller amounts of capital to invest. While private asset managers have sought to meet a number of these needs in recent years, there’s no panacea for investing in what are inherently illiquid, long-term assets. Retail investors need to ensure that investing in private markets via LITs aligns to their long-term objectives and risk appetite.

Important information: Any express or implied rating or advice is limited to general advice, it doesn’t consider any personal needs, goals or objectives.  Before making any decision about financial products, consider whether it is personally appropriate for you in light of your personal circumstances. Obtain and consider the Product Disclosure Statement for each financial product and seek professional personal advice before making any decisions regarding a financial product.