Investment Magazine July 2017

INTELLIGENCE FOR INSTITUTIONAL INVESTORS

ISSUE 139

JUNE 2017

Harvesting

RETURNS

AustSafe Super general manager of investments SIMON MATHER searches town and country to find the best opportunities for the rural workers’ fund

MEDIA SUPER THREE YEARS ON FROM A MAJOR RESTRUCTURE, CEO GRAEME RUSSELL AND CHAIR GERARD NOONAN REFLECT ON SUCCESS SUPERANNUATION GUARANTEE SENATOR JANE HUME IS PUSHING THE COALITION TO SCRAP THE $450-A-MONTH THRESHOLD FIXED INCOME AMID THE CHALLENGING HUNT FOR RISK-ADJUSTED RETURNS, MORE MAJOR ASSET OWNERS ARE EMBRACING ETFs THE CULTURE MYTH INSTITUTIONAL INVESTORS IN A LEADERSHIP VACUUM DON’T SUCCEED AT TRANSFORMATIONAL CHANGE

DATA AND ANALYTICS TO TAKE ESG FROM NICHE TO NORM

The era of “ESG-aware� investing, whereby Environmental, Social and Governance (ESG) considerations are a part of investment and risk management decisions, has evolved from niche to normal. FTSE Russell has more than 15 years of ESG experience and provides data analytics, ratings and indexes covering thousands of companies worldwide.

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CONTENTS JUNE 2017

06 PROFILE

“We’re looking for new strategies that can add meaningful returns to our fund” – SIMON MATHER – GENERAL MANAGER, INVESTMENTS AUSTSAFE SUPER

10

MEDIA SUPER Three years after Media Super boss Graeme Russell absorbed the chief investment officer role, the fund has climbed the rankings.

14

OATH FOR ETHICS Industry stalwart Pauline Vamos is calling on professionals from the superannuation sector to take the Banking and Finance Oath.

16

SUPER GUARANTEE Liberal Senator Jane Hume implores her own party to scrap the superannuation guarantee’s $450-a-month income threshold.

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18

ETF STRATEGIES Asset owners keen to access niche corners of the fixed income market, while maintaining liquidity, are starting to embrace ETFs.

22

FACTOR INVESTING Factor-based strategies are all the rage, but is the proliferation of supposed ‘ factors’ overblown? At least four experts think so.

24

DISPUTE RESOLUTION The rights of super consumers must not be diluted under the new Australian Financial Complaints Authority, Eva Scheerlinck argues.

26

RG 97 TOOLKIT An industry working group is developing an RG 97 toolkit to help funds ahead of the September 30, 2017, deadline, Nathan Hodge explains.

28

LEADERSHIP Transformational change is difficult for institutional asset owner organisations. Obsessing about culture doesn’t help.

30

INSURANCE IN SUPER The Insurance in Superannuation Industry Working Group is considering how to improve premium design, Richard Weatherhead writes.

J U N E 201 7

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\ FROM THE EDITOR

EDITORIAL EDITOR

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

Sally Rose MANAGING EDITOR

Keith Barrett DIRECTOR OF INSTITUTIONAL CONTENT

Amanda White

A LETTER from the editor

T

HOUSING SCHEMES MISS MARK

JOURNALIST

Dan Purves EDITOR-AT-LARGE

Simon Hoyle HEAD OF DESIGN

Kelly Patterson ART DIRECTOR

Suzanne Elworthy SUB-EDITOR

Haki P. Crisden PHOTOGRAPHER

HE NICEST THING I can say about the government’s new First Home Super Saver Scheme, proudly unveiled by Treasurer Scott Morrison as part of the federal budget on May 9, 2017, is that it will have little impact.

On the one hand, it is great news that the Turnbull Government did not go down the path of letting young people tap their compulsory employer super contributions early to fund a firsthome deposit – as it was reported they might. Such a move, while it responds to young voters’ reasonable cries for some help cracking into the property market, would only inflate demand and push up prices.

The compromise the government has come up with is an incentive to encourage would-be first-home buyers to make up to $30,000 in voluntary super contributions that can be released early to go towards their deposit.

This is set to help a small number of young savers, mostly those still living at home with financially savvy parents, and won’t do much harm – but it also won’t do much to solve the nation’s housing affordability problem.

Likewise, the budget’s “downsizer” provisions might prompt a few wellheeled empty nesters to downsize from their $3 million home into smaller digs. But for the vast majority of older people, the tax advantages will be negligible. The close to 80 per cent of retirees who rely on eligibility for a full or part age pension payment have a disincentive to use the downsizer provisions.

JUNE 2017

It’s all window dressing to distract voters while the government dances around the need to boost supply and tackle reform in key areas like negative gearing, capital gains tax, SMSF borrowing, and the enforcement of foreign ownership rules.

As Women in Super executive officer Sandra Buckley noted, these budget measures, sold as tools to improve housing affordability, risk further entrenching the divide between those who can afford to make voluntary contributions and those who can’t. And that serves to widen the already yawning gender gap in retirement income standards.

Half the female workforce earns less than $37,000 a year. In the unlikely event that these women could save for a home deposit, there would be minimal or no tax advantage to doing so through superannuation. Depending on how it interacts with the low-income superannuation tax offset, it could even place them at a disadvantage.

While changes announced as part of the budget to encourage managed investment trusts to invest in affordable housing are a small step in the right direction, they fall well short of the hoped-for tax reform and establishment of institutional-grade housing bonds.

It is also disappointing that the budget failed to implement a single recommendation from the 2016 Senate inquiry into women’s economic security in retirement.

Matt Fatches matt@mattfatches.com.au CHIEF EXECUTIVE

Colin Tate

ADVERTISING BUSINESS DEVELOPMENT MANAGER

Karlee Samuels

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

Sean Scallan

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

Anastasia Papayioryiou

anastasiap@conexusfinancial.com.au (02) 9227 5703 CLIENT RELATIONSHIP MANAGER (EVENTS)

Bree Napier

bree.napier@conexusfinancial.com.au (02) 9227 5705, 0451 946 311

PRINT

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ADVISORY BOARD MEMBERS Graeme Arnott, chief executive, StatePlus | Richard Brandweiner, partner, Leapfrog Investments | Peter Curtis, head of investment operations, AustralianSuper | Joanna Davison, chief executive, FEAL | Brian Delaney, global head of clients, QIC | 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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MANY DESTINATIONS, ONE FIXED INCOME MANAGER In a world of uncertainty, investing in fixed income requires a different approach. As one of the world’s largest global fixed income managers with over 170 investment professionals and more than 30 years’ fixed income investing experience, Franklin Templeton Investments delivers a range of solutions ready to help investors reach their fixed income destination.

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Franklin Templeton Investments Australia Limited (ABN 87 006 972 247) (Australian Financial Services License Holder No. 225328) issues this publication for information purposes only and not investment or financial product advice. This publication is for wholesale/institutional investors, institutional investment consultants and eligible counterparties only, and it is not directed at private individuals. It expresses no views as to the suitability of the services or other matters described herein to the individual circumstances, objectives, financial situation or needs of any recipient. You should assess whether the information is appropriate for you and consider obtaining independent taxation, legal, financial or other professional advice before making an investment decision. Investments entail risks, the value of investments and the income from them can go down as well as up and investors should be aware they might not get back the full value invested. © 2017 Franklin Templeton Investments. All rights reserved.

06

\ CIO PROFILE

JUNE 2017

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CIO PROFILE \

A WORLD of RETURNS to

harvest AustSafe’s SIMON MATHER has developed an extensive collaboration with asset consultant JANA, to help the fund maximise the advantages of its small size, and minimise the downside.

By Simon Hoyle Photos Glenn Hunt

S I M O N M AT H E R AUSTSAFE SUPER GENERAL MANAGER, INVESTMENTS

Since September 2012

PREVIOUS ROLES June 2009 – September 2012 Energy Super, manager of investments June 2008 – June 2009 QSuper, senior investment analyst May 2006 – June 2008 Tactical Global Management, manager of performance measurement August 2005 – May 2006 Public Trust of Queensland, technical services manager February 1999 – May 2005 Jupiter Asset Management, investment manager September 1998 – February 1999 Bank of America, analyst

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ONCE A YEAR, for two weeks, the general manager of investments for AustSafe Super, Simon Mather, heads overseas on a research tour with the fund’s asset consultant, JANA. Working closely with JANA is critical for the $2.2 billion super fund, whose dedicated investment team consists of Mather and just one other full-time employee.

This year, Mather and JANA executive director John Coombe kicked off their tour with fund manager meetings in Los Angeles, then crossed the US via Des Moines, Iowa, and Milwaukee, Wisconsin, on the shore of Lake Michigan, before meetings in New York, Boston and finally in Philadelphia, Pennsylvania. Mather says the trip was “not only to review our current managers, but also to [find] new opportunities across different asset classes”.

The annual research trip is one aspect of what Mather says is an unusual relationship between the fund, its investment committee and its consultants. A small fund with limited resources is restricted in the number of relationships it can manage effectively.

Mather says the fund prefers to make “meaningful allocations” to a relatively small number of managers or strategies, but “the asset consultant is the key relationship”.

“For a number of years the fund, and I agree with this, has had a relationship with the asset consultant that’s an extension of us – it’s more a partnership,” he says.

“Research topics and manager selection are more of a two-way street between us and the asset consultant. We like to think of ourselves as partners or working quite closely together.”

It’s how a small, Brisbane-based fund representing farmers and employees in rural and regional Australia continues to mix it up with bigger competitors, and why its line-up of investments includes vehicles like the Delaware Investments Emerging Markets Fund and Origin Global Smaller Companies Fund in international equities, and Siguler Guff Small Buyout Opportunities Fund II LP and Crown Europe Middle Market III PLC Class A in alternatives.

JANA’s Coombe says the 2017 research trip involved meetings with new alternativecredit and US property managers. Mather

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\ CIO PROFILE

says face-to-face meetings are critical for monitoring existing managers and assessing potential new managers.

“It’s making sure we’ve got as much information as possible, making sure the investment committee is comfortable with any decisions, or potential decisions, that we’re making; [and conducting] due diligence on the manager, both at the investment level and at the operational level,” he says.

Mather adds that he and JANA jointly develop new investment ideas, or find new managers and strategies, and the best ideas are taken to the fund’s investment committee, headed by Henry Smerdon, who is also chair of the AustSafe board and a former under secretary of the Queensland Treasury Department.

“The investment committee will then question that, and in most instances we’ll bring the one or two managers that we’re recommending in to meet the investment committee,” he says. “We’re looking for new strategies that can add meaningful returns to our fund. Being a small fund, we have to be across every asset class from an investment point of view. That’s another reason we use an asset consultant and leverage the people they have internally dedicated to asset classes. We just don’t have the time to be able to do that internally.”

Coombe says JANA’s relationship with AustSafe is unusual for how closely the fund wants it to work on researching investments.

AustSafe foots the bill for JANA’s attendance on the annual research tour.

“In a lot of funds, the investment guy goes off on his own and they don’t usually involve the asset consultant,” Coombe says.

“But here, they pay for me to go for two weeks overseas and be part of the whole thing. So they are seeing the things that JANA sees that can add value to the fund.”

The relationship has developed as it has, simply because AustSafe has facilitated it, Coombe says. JANA does not undertake similar trips with any other funds.

“They have always wanted to be ahead, in terms of new ideas,” Coombe says.

“It’s unique.”

MEET MONTHLY, ACT QUICKLY

An agile and well-informed investment committee is a crucial support to Mather and to the relationship with JANA. At AustSafe, he says, the comittee meets monthly and moves quickly.

“I have always found the investment committee has been very open to listening to new ideas, and has supported the internal investment team in looking for interesting strategies that we believe will add value for our members,” he says.

AustSafe was named Small Fund of the Year in the 2017 Conexus Financial Superannuation Awards in March, as the best fund with assets of less than $5 billion.

In presenting the award to Mather on the night, award judging committee member and Fund Executives Association Ltd chief executive Joanna Davison said AustSafe stood out for its investment performance and for forward-looking estimates of returns for members in its default option.

Mather says he believes a relatively small fund can gain a performance advantage by moving swiftly when it finds a manager or a strategy is not working as expected. He says AustSafe takes a “succeed or fail fast” approach and will cut a manager or strategy if it fails to meet expectations. But identifying failure requires context and an understanding of whether poor performance is due to environmental or more fundamental issues.

“One thing we talk about with the investment committee, before we even make an investment decision, is what sort of environment does this work in or not work in?” Mather explains.

He says environmental issues can include the underperformance of a certain style of management. When value managers were underperforming, the investment committee knew why.

“That’s a very important part,” he says.

“Making a redemption or selling a strategy [can be] very difficult – a situation where you hang on and you hang on. But if you’ve lost confidence or you know they’re not performing as they should be, then it’s time to make a decision.”

They have always wanted to be ahead, in terms of new ideas, it’s unique JUNE 2017

ADVANTAGES TO BEING SMALL

Mather says AustSafe is able to take advantage of investment opportunities that larger funds wouldn’t even bother with.

“We can still make meaningful allocations, and the outcomes actually make a difference,” he says.

For example, Mather says AustSafe and JANA identified a new Australian small-cap manager with such limited capacity that it would not have been worth it for larger funds to investigate the opportunity.

That manager was Ophir Asset Management, a Sydney-based boutique founded by ex-Paradice Investment Management portfolio managers Andrew Mitchell and Stephen Ng. From its launch in August 2012 to April 30 this year, the Ophir Opportunities Fund returned 326 per cent.

“Being a $2.2 billion super fund, a $40 million allocation is still a meaningful allocation for us,” Mather says.

The JANA relationship came to the fore with Ophir as well. AustSafe was already a significant investor in Paradice funds and Coombe says when Mitchell and Ng left, JANA monitored the pair for a couple of years before recommending that AustSafe back the new venture.

Coombe says this is consistent with a long-standing philosophy that led AustSafe to invest with Paradice itself in its early stages, and Maple-Brown Abbott before that.

Mather says small super funds don’t have the same power as large ones to negotiate lower fees or cut other costs, but with JANA’s input, AustSafe has been proactive at investing in early-stage managers who are prepared to be competitive on fees.

And he adds that efficiency gains don’t come only from growing assets.

“It’s to do with your membership base as well,” he explains. “The business has fixed costs, and the more members you have to spread those costs across, the better.

It’s not as simple as how big you are. It’s about sustainability. Are you still cashflow positive?

Each year, are you still getting cash in the door, or are you in a position where your fund is gradually winding down?”

Almost all – 99.5 per cent – of AustSafe’s members are in accumulation phase, “so we’re a fund that is still cashflow positive”, Mather says.

“I don’t like thinking just about size.

It’s more than your assets under management, but obviously…assets under management do help in negotiating fees.”

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CIO PROFILE \

A ROAD LESS TRAVELLED

FUND PROFILE Number of members: 106,739* Average account balance: $19,551* Proportion of members in accumulation: 99.5 per cent Total funds under management: $2.2 billion Proportion of funds managed internally: 7 per cent Total staff: about 26 Investment team staff: 2 Chief executive: Craig Stevens Chair/investment committee chair: Henry Smerdon *as at March 31, 2017

AUSTSAFE SUPER ASSET ALLOCATION* Asset Class

Allocation (%)

Range

Australian equities

26

20-50

International equities

27

15-35

(%)

Growth alternatives

8

0-12

Infrastructure

9

2-20

10

2-20

2

0-10

Property Defensive alternatives Fixed interest Cash

13

5-25

5

0-10

Source: AustSafe Super as at March 31, 2017

AUSTSAFE SUPER HISTORICAL PERFORMANCE – BALANCED (MYSUPER) OPTION

As at March 31, 2017

11.35 9.74 11.15 9.17 5.18

5.04

1 YEAR

5 YEARS

10 YEARS

(% PA)

NOTE: Benchmark = SuperRatings SR50 Balanced Index SOURCE: AustSafe Super/SuperRatings

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Mather’s path to investment management wasn’t direct, nor was it obvious. He graduated from the University of Greenwich in London with a bachelor of science degree and a major in geology. But when his studies ended in 1996, employment opportunities were scarce in the oil and gas industry.

A conversation with a friend led to a role at Bank of America in London.

“In that first six months I spent with Bank of America, I quite enjoyed that sort of environment,” he says.

He was drawn to the analytical side of the job, an attraction that was unsurprising to him because “probably my strengths through schooling and university were my analytical skills and dealing with numbers”.

It was a role he enjoyed before moving from Bank of America to Jupiter Asset Management, still in London, where he found himself working in the private client department.

“The things I liked about that were, obviously, the investment side of it, but also dealing with people’s assets and trying, in some cases, to help them improve their retirement outcome,” he says.

In May 2005, Mather departed the UK for Australia, and after stints at Tactical Global Management and Public Trust of Queensland, he spent a bit more than a year as an analyst with QSuper, followed by about three-and-a-half years as manager of investments for Energy Super, before joining AustSafe in 2012.

In his current role, Mather has only one direct team member, “But in the wider organisation, I work very closely with the CEO and we have an internal compliance and finance team, which is another area that provides an incredible amount of support.”

Mather says a strong team is critical to help a small fund comply with the seemingly never-ending stream of new regulations.

Being smaller also means he has an appreciation of other areas of the fund’s operations.

“That’s one of the things I really quite like about working for a smaller fund – it gives you exposure to all parts of the business,” he says. “While sometimes I find [them] quite frustrating, some of those parts of the business, it gives me a good grounding.

If we’re thinking about making some changes to asset allocation, I’m aware of what other things need to be done prior to doing it.”

AustSafe’s far-flung membership means

it needs representatives based in regional areas and living near members. However, Mather says the concerns and interests of a rural constituency have little impact on the task of managing the fund’s assets.

KEEPING A CLEAR HEAD

Managing money takes clarity of thought even at the best of times, but with the world entering uncharted waters, especially on the political front, it’s a particularly useful characteristic. Mather believes he has a natural analytical bent, but it was honed at Jupiter, where he managed high-net-worth client portfolios and where those clients would often phone him with stock suggestions.

“You knew they were emotionally attached or emotionally involved in it,” he says. “And I think that helped me, particularly back then, learn to just step away, and look at it from a pragmatic point of view, as opposed to falling in love with something and holding the stock or the strategy for too long.”

When the outlook is uncertain, Mather says, the answer is to be armed with as much relevant information as possible to underpin decisions. This is another area where he relies heavily on the fund’s asset consultant.

“Talking to other investors is quite an important thing we’ve done a few times, especially where a strategy has been a bit different to what we’re used to,” Mather says. “It’s making sure we’ve got as much information as possible, making sure the investment committee is comfortable with any decisions, or potential decisions, that we’re making, and [performing] due diligence on the manager, both at the investment level and the operational level.”

Mather says that while the ultimate aim of managing any superannuation fund is relatively simple – to maximise each member’s retirement benefit – complexity and the pace of change make the job challenging.

“This year is going to be very interesting as Trump’s presidency plays out, and [we see what] support he gets,” Mather says.

“It’s one of the reasons our research trip this year was to the US. I don’t think we’re going to find out any particular secrets, but we’ll [learn] how the American people – particularly our investment managers – are responding to his policies, and what sort of opportunities that’s potentially throwing up that we can take advantage of.”

JUNE 201 7

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\ FUND PROFILE

By Dan Purves Photos Matt Fatches

Three years on since declining returns prompted MEDIA SUPER to undergo a restructure, throwing CHIEF EXECUTIVE Graeme Russell into the spotlight as leading man on investment strategy, THE RESULTS ARE LOOKING PROMISING. IN 2014, MEDIA Super was in bad shape. More than three-quarters of all MySuper funds in the marketplace were beating it in terms of investment performance, while redundancies swept through the big employers of its membership base, hurting inflows.

The situation prompted the board to take control of the investment committee, oust the chief investment officer, and undertake a root-and-branch review of the fund’s investment strategy.

Today, the $5 billion fund for Australia’s print, media, entertainment and arts workers is in the top quartile for returns. SuperRatings’ SR50 Balanced fund survey for December 2016 ranked Media Super’s MySuper option in the top 10 for the calendar year, with an annual return of 6.72 per cent. The fund has also lowered its investment management fees by 15 per cent.

“It took quite a long time to turn the fund’s fortunes around,” Media Super’s longstanding chair, Gerard Noonan, tells Investment Magazine. “Super funds are a little like aircraft carriers: hard to move from their current direction [and] equally challenging to get back on course.”

Noonan recalls that, back in 2014, the board “became aware over a number of months” that the fund’s position was slipping sharply, relative to almost a dozen other funds that its asset consultant, Frontier, advised. Frontier director of consulting, Fiona Trafford-Walker, has been the lead adviser since Media Super was formed via a merger in July 2008.

“We needed to do something to arrest that sharp decline,” Noonan says.

The first change was to disband the investment committee and put that suite of responsibilities on the shoulders of all the fund’s trustees.

“I wanted everyone on the board to own the problem and feel its seriousness firsthand,” Noonan says.

The next step was to make the chief investment officer role redundant, leading former CIO Dr Jon Glass to leave the fund.

A NEW, feel-good script at MEDIA SUPER

JUNE 2017

GOING OVERWEIGHT EQUITIES

Since March 2014, chief executive Graeme Russell has had direct executive responsibility for investment performance. Russell, who is a chartered accountant, joined the fund as chief executive in March 2013.

A year into his role, in the first three months following the exit of investment chief Glass, Russell oversaw a redesign of the portfolio, with implementation of the new strategy completed by December 2014.

“We looked at our Australian equities configuration and we had quite a concentration in the ASX 20. That meant we had a fair slice of money invested in four banks, three mining companies, two supermarkets and a telco,” Russell says.

The board agreed with his assessment that this presented a concentration risk, and approved a plan to take money out of the 20 biggest local stocks and redeploy it across the next 80 stocks in the ASX 100. Media Super also made an

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FUNDAct PROFILE \ This communication is for Institutional Clients and not for retail clients, as defined in subsection 761G(7) of the Corporations 2001 (Cth) (the ‘Act’) and must not be relied on by anyone else.

A fixed income portfolio that can benefit retirement solutions

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WHAT’S DIFFERENT ABOUT ARGBS? ARGBS seeks to deliver bond market-level returns but with substantially lower risk, which can improve the sustainability and predictability of the retirement pot. Specifically, ARGBS targets cash* plus 3% per annum (gross of fees) evaluated over rolling 3 year periods with expected volatility of 2-4%.

MANAGING BY RISK CATEGORY To achieve ARGBS’ risk/return objectives, we identify strategies (positions) within seven different risk categories and combine them into a well-balanced portfolio. The risk categories are:

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Allocations are not fixed and risk exposures can change over time.

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From inception*1 to the end of February 2017, the ARGBS Trust has delivered solid and consistent performance, returning 4.86% gross of fees (4.18% net of fees) compared to 3.03% from the cash benchmark. Moreover, it has achieved this with volatility of just 2%.

KEY FEATURES

¬ Invests in an exceptionally broad and diverse investment

universe. So, as well as considering traditional government debt and credit markets, ARGBS can invest in a wide range of fixed income and currency strategies. This enhances both return potential and our ability to spread risk.

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To find out more please visit australia.standardlifeinvestments.com/fixedincome

Disclaimer Past performance is not a guide to future performance.

Equity Trustees Limited (ABN 46 004 031 298) AFSL 240975, is a subsidiary of EQT Holdings Limited (ABN 22 607 797 615), a publicly listed company on the Australian Securities Exchange (ASX:EQT), is the Responsible Entity for the Absolute Return Global Bond Strategies Trust. This publication has been prepared to provide general information only and does not take into account the investment objectives, financial situation or particular needs of any particular person. Equity Trustees Limited, Standard Life Investments Limited, nor any of its related parties, its directors and employees, accepts no liability for any loss or damage incurred as a result of any action taken or not taken on the basis of the information contained in this publication or any omissions or errors within it.

Standard Life Investments Limited (ABN 36 142 665 227) is incorporated in Scotland (No.SC123321) and is exempt from the requirement to hold an Australian financial services licence under paragraph 911A(2) (l) of the Corporations Act 2001 (Cth) (the ‘Act’) in respect of the provision of financial services as defined in Schedule A of the relief instrument no.10/0264 dated 9 April 2010 issued to Standard Life Investments Limited by the Australian Securities and Investments Commission. These financial services are provided only to wholesale clients as defined in subsection 761G(7) of the Act. Standard Life Investments Limited is regulated in the United Kingdom by the Financial Conduct Authority under the laws of the United Kingdom, which differ from Australian laws. © 2017 Standard Life, images reproduced under licence.

*cash is measured by the Bloomberg AusBond Bank Bill Index return *1 : The Standard Life Investments Absolute Return

Global Bond Strategies Trust (ARSN 125 896 988) commenced on 2 June 2014. For information purposes, we show the historical performance of the underlying master fund, the SICAV Absolute Return Global Bond Strategies Fund [in GBP share class converted from Sterling to Australian Dollar from inception (30 March 2011) to 18 October 2012; then Australian Dollar Share class from 18 October 2012 to 2 June 2014 and the Australian Trust thereafter.

12

\ FUND PROFILE

allocation to domestic micro-cap stocks around this time.

“The bigger funds really can’t get into micro caps; that’s the advantage of our size,” Russell says.

He also piled the fund into international shares. Since the 2014 review, Media Super has held a 7 per cent overweight allocation to developed market equites, compared with its long-term strategic asset allocation benchmark. Tail-risk hedging was put into place early as downside protection, in case the assumptions were wrong.

“We were very early in with the tail-risk hedging strategy and, because of the timing, put options were very reasonably priced,” Russell says. “We started a program of a rolling quarterly purchase of put options and because we got in early we started at very good value for money.”

GETTING TOUGH ON FEES

Russell says the options strategy paid off during the downturn following Brexit.

From July 2014 to December 2016, there was a net contribution of about 1.5 per cent to returns from the overweight.

As another form of downside protection, the fund left about 20 per cent of the balanced fund exposed to foreign currency.

Back in 2014, when the decision was made, the Australian dollar was 94 cents to the US dollar; today it is 74 cents, marking another good call.

The fund’s improvement in investment performance relative to peers is only one side of the turnaround; cost reduction is also critical in a low-return environment.

Since 2013, Media Super has lowered the investment management fee it charges members by 15 per cent. The biggest driver of this has been getting tough on manager fees.

“We have been very persistent in negotiating more competitive fees from our fund managers, custodian and asset consultants,” Russell says. “We do not accept that fund managers cannot negotiate lower fees for particular clients. We have redeemed investments – substantial amounts – from fund managers who have been unwilling to reduce their fees. We will do so again if required.

JUNE 2017

GRAEME RUSSELL

Chief executive | Media Super

“This approach, combined with regular fee reductions from our collectively owned manager, IFM Investors, has reduced our investment management costs by more than 15 per cent.”

LIGHTS, CAMERA , ACTION

Media Super, like most institutional investors at the moment, is looking for innovative ways to source returns, given the outlook for low interest rates, potentially sideways equity markets and negative bond markets.

“We can’t really put any more money into

infrastructure and property, because there is a limit to how much we can put in illiquid unlisted,” Russell says.

The fund has found it can generate returns in one of the sectors that employs many of its members by pumping money into local film and television productions.

Through specialist fund manager Fulcrum Media Finance, Media Super loans muchneeded cash during the production phase of TV shows and films, which is then paid back from a tax rebate that the filming company can claim from the Australian Taxation

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FUND PROFILE \

It’s a good thing to do to support R&D in the country, but we are in it to make money

Office once production is finished.

Producers pay interest on the loan, which provides the return for Media Super.

Since its launch in 2010, the fund has invested in 70-plus projects that have been completed – with zero defaults – and has returned 6.8 per cent a year.

Feature films financed include Lion – which was nominated for six Academy Awards – The Dressmaker, The Hunter, The Daughter, Holding the Man, The Railway Man, Last Cab to Darwin, The Rover, Drift and The Turning.

Australian television programs to receive funding from Media Super include: The Gods of Wheat Street, Cleverman, Miss Fisher’s Murder Mysteries, The Secret River, Rake, and Upper Middle Bogan.

The Commonwealth Government also has a tax incentive scheme for research and development. Leveraging its film finance experience, Media Super has created a new $30 million revolving fund to provide shortterm cashflow loans for companies involved in research and development.

“It’s a good thing to do to support R&D in the country, but we are in it to make money, as we have to be, and we expect to get a higher return than the film fund for this one,” Russell says.

LOOKING TO THE FUTURE

Such diversified sources of returns will be highly sought after in the years to come.

Media Super has decided to stick with its return objective of Consumer Price Index +3.5 per cent, at a time when many other funds are revising their targets because of historically low interest rates, low inflation and difficulty to generate reasonably high returns.

“The fact is we still are long-term investors

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and we should take a 10-year view, not a ‘how are things at the moment’ view.

In the next 12 months, interest rates could be up by a hundred basis points or more; things may well change,” Russell says.

At its upcoming meeting in June 2017, the Media Super board will review its current executive structure and investment management strategy.

The decision to cut the CIO role is regularly assessed. In May 2015, Russell recruited then ME Bank head of treasury sales Justin Nunan to come on board as head of investments. His role is focused on implementation. In February 2016, the investment committee function was once again relegated to a sub-committee of the board.

Russell says there are “no current plans” to reintroduce a dedicated CIO. Chair Noonan says the “welcome turnaround” has reassured the board the fund’s current approach is working, while noting that, longer term, the directors remain “open to ideas”.

Media Super is recruiting for a general manager of communications and marketing, which Noonan hopes will strengthen the executive team and extend succession planning options, although Russell says he has no current plans to give up the top job.

“Having said that, CEOs do need to have a good sense of when it’s time to give someone else a shot at pursuing the fund’s strategy; I hope that I do,” Russell says.

For the moment, there is plenty of work left to do. With the fund in improved shape, Russell’s next task is to pursue growth by enticing some of the biggest employers in the media industry into rolling in their corporate funds, or nominating Media Super as the preferred default fund for their workers.

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Super professionals should take the Banking and Finance Oath It is time for leaders from the industry to step up and commit to ethical behaviour.

WHEN I SAT down to write about why so few individuals within the superannuation industry have signed up to the Banking and Finance Oath, I thought it would be much easier than it was.

I have been on the board of the Banking and Finance Oath for a number of years.

In my previous role, as chief executive of the Association of Superannuation Funds of Australia, when I spoke to super providers about the oath, most showed little interest.

Many people said that it was not relevant in super given the industry’s fiduciary duty to members. Others stated that it did not apply to super because super was different to banking and finance.

But as we know, super funds are now retail savings vehicles, wholesale fund managers, significant direct shareholders, insurance providers and income-stream product issuers, as well as full financial advisers.

Following the recent budget announcement, super funds will now also be involved in members’ saving for housing deposits.

The BFO has been designed to incorporate the entire financial services sector, and super, like it or not, is part of the finance industry.

Its footprint on the financial goals of consumers’ lives is increasingly significant.

THE BANKING AND FINANCE OATH Trust is the foundation of my profession.

I will serve all interests in good faith.

I will compete with honour.

I will pursue my ends with ethical restraint.

I will help create a sustainable future.

I will help create a more just society.

I will speak out against wrongdoing and support others who do the same.

I will accept responsibility for my actions.

In these and all other matters, my word is my bond.

JUNE 2017

While super is different to retail and wholesale banking and other parts of the finance industry, it interacts with those areas at a number of levels on behalf of members. Taking the oath does not align super providers with banking activities but it does mean starting to acknowledge the responsibility of being part of the broader financial services industry.

BY

PAULINE VAMOS

Pauline Vamos is a director of The Banking and Finance Oath and Decimal Software. She is a former chief executive of the Association of Superannuation Funds of Australia.

PROACTIVE NOT REACTIVE

Parts of that industry have traditionally invoked ethics reactively. The super sector should consider whether it could fall into the same trap.

The greatest challenge for the industry is to control its own destiny and the destiny of the system As part of the banking and finance industry, individuals in super should be on the front foot. Unethical behaviour does and will happen and there is little to be gained from trying to apologise after the behaviour has been exposed and the damage done.

The likelihood of weakening consumer trust is increasing as competition ratchets up, advisers employed by funds sell incomestream products, and the current default system changes. The controls need to be tightened. A way to do that is to start individual conversations from an ethical perspective.

In this highly competitive and changing environment, it will continue to be difficult for the industry to come together and agree, except in those areas where there is complete sector neutrality. These areas are few and far

between; even those issues that are relatively sector neutral, such as efficiency and insurance, continue to have their challenges.

So let’s take a different approach, rather than rely on organisations, sponsors and shareholders agreeing, there is now an opportunity for individuals at all levels, in all sectors and in all parts of the value chain, to make an individual commitment to ethics. This way, everybody starts from the same position.

The greatest challenge for the industry is to control its own destiny and the destiny of the system. It has to prove it can collectively put the members first. Every statement of the oath is relevant to this objective and just maybe, if a large percentage of super operatives signed the oath, public trust in the industry might strengthen.

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Our investment process is anchored by our macro outlook for the global economy, financial markets, central bank policy and geopolitical dynamics. Our understanding of these forces and their impact on the world helps position millions of investors for the opportunities and obstacles ahead.

All investments contain risk and may lose value. Š2017 PIMCO.

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\ COLUMN

WE MUST SCRAP the $450-a-month income threshold that is excluding a growing number of casual and contract workers, a disproportionate number of whom are women, from our world-class compulsory superannuation system.

It’s commonly said that Australia’s super system is the envy of the world. Successive governments, looking down the barrel of an ageing population over the past 25 years, have supported a mandatory, concessionally taxed savings scheme to reduce reliance on

It is increasingly common for individuals to earn income from multiple jobs. This means a growing number of workers who overall earn significantly more than the $450 a month receive no superannuation guarantee payments, because the obligation is never triggered for any of their employers.

In a modern economy, the $450-a-month threshold for the super guarantee represents a failure of government to keep superannuation in line with its intended policy outcomes.

High time to extend compulsory super to all workers Employment patterns have changed plenty in the 25 years since the superannuation guarantee was introduced, and THE SYSTEM MUST ADAPT TO KEEP UP. the age pension and, ideally, replace it with income from private savings.

As enviable as our superannuation scheme is, however, it is not perfect. It remains the responsibility of government to review the operation and application of policy constantly to ensure that we are best serving all Australians, by providing them the opportunity to save adequately for retirement.

There are elements of the scheme that need urgent attention; most notably, the $450-a-month income threshold before workers are eligible for guaranteed 9.5 per cent superannuation contributions via their employer.

CHANGING WORKFORCE

As it stands, if an employee earns less than $450, before tax, in a calendar month, an employer is not obligated to accrue and pay any superannuation on their behalf. This is regardless of the employee’s classification and even if the employee has multiple jobs for which their overall income exceeds the threshold.

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WOMEN WORSE OFF

Of great concern to me is the disproportionate effect that the threshold has on certain sectors of Australian society, including low-income earners and, in particular, women. In industries such as retail, hospitality and nursing, which female workers dominate, many employees are excluded from the super guarantee system in spite of their aggregate income exceeding the threshold.

The $450-a-month minimum gives rise to the opportunity for unscrupulous employers to game the system by deliberately employing large numbers of staff for a few hours each, thereby reducing their payroll liability by remaining under the threshold for each employee. This is a perversion of policy that systematically discriminates against those who work few hours due to their responsibility as carers or work in industries with a largely casual workforce.

Superannuation policy and payroll systems have come a long way in the past decade. With the introduction of the Australian Taxation Office’s clearing house for small-business superannuation transactions, the excuse that small amounts of superannuation are an unnecessary administrative burden to businesses no longer holds up.

OUTDATED RELIC

BY JANE HUME

Jane Hume is a Liberal Senator for Victoria and chair of the Senate Economics Legislation Committee. Prior to her election in July 2016, Hume held senior executive roles at AustralianSuper, Deutsche Bank and Rothschild Asset Management.

The $450-a-month income threshold is a relic. It is no coincidence that $450 a month extrapolated to a yearly income is $5400. This was the tax-free threshold in 1992, the year compulsory superannuation was introduced.

The tax-free threshold in 2017 is $18,200, yet the income threshold for the compulsory payment of superannuation guarantee has not changed in 25 years.

This makes no sense.

As the government works towards a mature superannuation system – one that allows Australians to generate a retirement income from private savings that can supplement or substitute the age pension – it must amend the Superannuation Guarantee (Administration) Act 1992 to remove the $450-a-month income threshold and allow super to be accrued from the first dollar earned.

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Fund Executive of the Year 2017 FEAL is pleased to invite nominations for the Fund Executive of the Year Award.

Now in its 16th year, the Award recognises outstanding leadership by a fund executive within the Australian superannuation industry.

The recipient will receive a $25,000 business education grant made possible with the support of AMP Capital.

NOMINATE NOW

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\ SP ONSORED ROUNDTABLE

INSTITUTIONAL INVESTORS are

catching on TO ETFs

By Sally Rose Photos Matt Fatches

Faced with some of the most challenging conditions ever seen in global bond markets, fixed income managers are looking for new ways to make money and manage risk. In that context, the emerging role for exchange-traded funds within institutional portfolios was explored at a recent roundtable, proudly hosted by INVESTMENT MAGAZINE and sponsored by BLACKROCK.

TRADITIONAL BOND-BUYING STRATEGIES are not working in the current low-growth, low-yield environment. Many investors are finding it challenging to generate short-term returns from bond markets while maintaining an acceptable level of risk – even if, for the most part, bond and equity markets remain negatively correlated over the longer term. In the hunt for new sources of returns, asset owners are grappling with how to access niche corners of the fixed income market, while maintaining adequate portfolio liquidity.

In the United States, this has already led to a strong uptick in the use of exchangetraded funds by institutional asset owners.

In Australia, ETFs, a popular vehicle for retail investors, are still mostly eschewed by institutions.

“Things are much better in Australia than most parts of the world, but generally low yields are becoming a global challenge for investors. This makes it difficult to construct fixed income portfolios that can deliver positive long-term returns, especially

JUNE 2017

in terms of inflation-adjusted returns,” BlackRock head of fixed income iShares strategy Matthew Tucker said.

The backdrop for fixed income investors is only set to become more complicated as interest rates normalise.

Australian asset owners have lagged their US counterparts in adopting ETFs as a portfolio tool, although the attitudes of local institutional investors are already starting to change, as indicated by the fact that one recently traded $45 million through a BlackRock fixed income ETF, Tucker said.

PHIL PINEO Bank of America Merrill Lynch

EDWIN LO Christian Super

A FIXED INCOME ETF PIONEER

Tucker, who is based in San Francisco, has been with BlackRock for more than 20 years and was the creator of the world’s first fixed income ETF in 2002. That and other early products were designed with retail investors in mind and Tucker admits he never anticipated they would become so sought after by institutional clients.

Then the global financial crisis changed everything. The collapse of a number of big

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SP ONSORED ROUNDTABLE \

MATTHEW TUCKER BlackRock

institutions in the US left investors facing an uncertain future and in need of new ways to manage risk.

“Suddenly, in the over-the-counter bond market, liquidity became a question. And a lot of folks said, ‘Hey wait a minute. If I can’t trade bonds the way I used to, what else can I use? There’s this thing called an ETF, maybe I can trade that to get exposure to corporate bonds or treasuries?’,” Tucker said.

“That actually was the awakening moment for institutions to realise that the ETF, although it sits on the exchange, is actually a complement to over-the-counter bond liquidity. And we’ve seen institutional usage grow steadily over the years since then.”

Frontier Advisors head of debt research, Andrew Kemp, who advises some of Australia’s largest super funds, said one of the main reasons so few local institutions use fixed income ETFs is because they consider the fees on them relatively high.

“The fee structures that some institutions are getting on passive investments are in many cases a lot lower than ETFs at this stage.

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So, I think [managers] prefer to stick with individual mandates, where they’ve got a bit more control,” Kemp said.

A LIQUIDIT Y AND TRANSITIONMANAGEMENT TOOL

But things are changing. Frontier has begun to research fixed income ETFs and some of its super fund clients are considering how these might fit within their portfolio. One tactic increasingly popular among US-based institutions is to use ETFs to tap liquidity and get in and out of mandates quickly.

Bank of America Merrill Lynch head of prime brokerage in Australia, Phil Pineo, said his team has used ETFs to help clients get tactical exposures to a range of fixed income markets, including US high yield, and emerging market credit. The advantage of ETFs is that they let investors be nimble with getting in and out of the market quickly and transparently, which is especially effective for liquidity sensitive clients, he said.

“We feel they [ETFs] are one good tool to add on top of manager selection.”

Another way US institutional investors are increasingly using ETFs is as a transitionmanagement tool that allows them to stay in the market while in the process of moving a mandate from one manager to another.

Pineo said ETFs are a particularly effective tool during periods of “extreme price action” when ease, speed and transparency of execution is paramount.

Citibank Asia-Pacific head of transition management, Michael Jackett-Simpson, is starting to see this trend catch on among local asset owners.

“There have been cases where a fund manager has had some staff turnover and investors have wanted to de-risk the situation but they don’t know where they want to go yet, and it could take a few months to get their mandate ready,” Jackett-Simpson explained. “You can potentially use an ETF for that period of time.”

Christian Super, a $2 billion faith-based superannuation fund, is one example of a local asset owner that uses fixed income ETFs in this way.

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“We are using ETFs much more for transition management,” said Christian Super senior portfolio manager Edwin Lo. Mine Wealth + Wellbeing chief investment officer David Bell revealed that while the $10 billion super fund for the coal industry does not use fixed income ETFs, he was interested in exploring their potential as a transition-management tool.

“If you were using external funds and an event happened and you had to get out of that manager but maintain exposure to the market, then that’s where an ETF might have a role,” Bell said.

Roundtable participants from larger asset owners were less inclined to want to consider using ETFs as a transitionmanagement strategy.

“We are focused on generating active returns,” Victorian Funds Management Corporation senior portfolio manager Nick Tribe said. “And given the nature of our organisation, we have quite a strong handle on cash flows, so from a liquidity perspective we’re reasonably well placed.”

State-owned asset manager VFMC has roughly $52 billion in funds under management.

hold large amounts of capital for long periods, but as a tool that allows the firm’s portfolio managers to tap liquidity and access new market niches in an inexpensive and efficient manner.

“One of the most common ways we use ETFs inside our portfolios is as a tool to put new inflows of cash to work. It’s a way to get the cash working while we find the individual bonds we want to invest in,” Tucker said. “The multi-sector guys use [ETFs] as a way to get exposure to asset classes that they don’t already hold. If they want to move into emerging markets on a short-term basis, the ETF is an efficient way to get in quickly and capture the market premium they are after.”

BlackRock is the world’s largest funds manager, with $US5.4 trillion ($7.4 trillion) under management, including $US1.4 trillion in iShares ETFs. Russell Investments is a smaller firm that, like BlackRock, both sells fixed income ETFs and uses them as a tool within their actively managed portfolios.

“We’re using ETFs as a couple of per cent of the total portfolio, as a buffer,” Russell Investments Australia senior portfolio manager Clive Smith said. “The key role of ETFs within our funds is really as a source of being able to put cash to work very quickly.”

An added advantage of holding a small portion of the fixed income funds in ETFs is that in the event of another crisis, these

AN EVOLVING ROLE FOR ETFs

Avant Mutual Group chief investment officer John Lucey said the medical indemnity fund preferred to combine derivatives overlays with active manager selection to manage transition risks.

Another advantage for institutional investors to holding a small allocation to ETFs is the potential to make revenue from lending them out to short sellers, Tucker said.

“In the US, we actually see some investors who will use the ETF as a more strategic long-term holding, because the lending revenue they can pick up can be attractive.”

And while fixed income ETFs are traditionally associated with passive investment strategies, this is changing.

“There is a global trend that the strategies inside ETFs are not only traditional market cap-weighted indices,” Tucker said. “What’s inside the wrapper could be an index fund, an active fund, or a smart beta fund.”

BlackRock sees the potential for a big increase in inflation within the US and globally over the next few years, and is seeing rising demand for inflation-linked products.

BlackRock is increasingly using ETFs within its own active portfolios, not to

JUNE 2017

RON MONTGOMERY BlackRock

A TOOL FOR ACTIVE MANAGERS

BlackRock Australia multi-asset portfolio manager Ron Montgomery said his team uses ETFs on a “horses for courses” basis within active portfolios.

“Where we’ve used them in the past has been where we’ve targeted an asset class that we think has good return expectations, but we haven’t found an active manager that we thought could add value over the long term and ETFs have stacked up well as compared to doing a derivative replication,” he said.

products would likely be much more liquid than the secondary bond market, Smith said.

He said Australian institutions allocating a significant portion of their capital via ETFs was unlikely to become a trend.

“As an institutional investor, the fees on ETFs don’t necessarily stack up versus what you can get with a specialised mandate. However, as a short-term trading and liquidity tool, they make sense.”

BlackRock’s Tucker believes that with increased investor education, ETFs will play

investmentmagazine.com.au

SP ONSORED ROUNDTABLE \

PA R T I C I PA N T S DAVID BELL

Mine Wealth + Wellbeing, chief investment officer DANIEL CONTI

Bentham Asset Management, senior portfolio specialist MICHAEL JACKETT-SIMPSON

Citibank Asia Pacific, head transition management ANDREW KEMP

Frontier Advisors, head of debt research EDWIN LO

Christian Super, senior portfolio manager JOHN LUCEY

Avant Mutual Group, chief investment officer RON MEHMET

Perpetual Investments, credit and fixed income specialist RON MONTGOMERY

BlackRock Australia, multi-asset portfolio manager LILLIAN NUNEZ

IFM Investors, debt investments director PHIL PINEO

Bank of America Merrill Lynch, head of Australian asset owners coverage CLIVE SMITH

Russell Investments Australia, senior portfolio manager NICK TRIBE

Victorian Funds Management Corporation, senior portfolio manager MATTHEW TUCKER

BlackRock, head of fixed income iShares strategy

a greater role in Australian institutional portfolios in the future. Although he agreed that, initially at least, the products would predominantly be attractive for specialised roles, “as an exposure vehicle or financial instrument”.

He also predicted a rise in the use of ETFs for these reasons by fixed income fund managers, although, none of the fixed income managers who participated in the roundtable anticipated this forming part of their strategy in the foreseeable future.

“As a specialist credit provider and asset selector, we have no interest in ETFs at all,”

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IFM Investors debt investments director Lillian Nunez said.

The touted benefits of ETFs, such as ease of access and added liquidity, are not considerations for IFM’s portfolio requirements, she said.

“Our portfolio has some inbuilt liquidity in terms of staggered duration, but it also comes back to [the fact that we are] transparent with our investors about what we do and manage their expectations.”

GREATER TRANSPARENCY

Bentham Asset Management senior portfolio specialist Daniel Conti saw no advantage to using ETFs instead of derivatives to manage cash and tactical allocations.

Perpetual Investments credit and fixed income specialist Ron Mehmet is another manager who preferred to use futures and derivatives over ETFs. However, he suggested that the implementation of the Australian Securities and Investments Commission’s regulatory guidance note 97 later this year could give a boost to ETF providers. The incoming rule change will require superannuation and managed fund providers to disclose more of the indirect costs associated with offmarket investments, meaning derivatives may appear more expensive.

“With RG 97, [for] anything that’s on an exchange, you don’t have to include the costs

in the PDS [product disclosure statement], which is a positive for ETFs and other exchange-traded instruments,” Mehmet said.

Montgomery said BlackRock’s ETFs offer excellent transparency to investors, who can review iShares’ website for a full list of the underlying holdings in each product.

A GROWING MARKET

A macro trend affecting fixed income managers globally is the ageing population in rich Western economies, such as the US, the UK, Canada, European nations and Australia.

“As demographics get older, fixed income managers are under more pressure to generate retirement income. This challenge is also an opportunity because it means more money is going to come our way,” Tucker says.

Increased flows to fixed income mandates could lead to more of that capital being deployed via fixed income ETFs, leading Tucker to be bullish in his predictions for the size of the global market, which is currently valued at roughly $US600 billion.

“There’s no reason it can’t be double, triple, quadruple that size in the next couple of years. Because it’s helping solve an investment problem, and helping to address a gap and a need in investor portfolios.”

And as fixed income ETFs become more popular with local retail investors, this will only increase their appeal to the nation’s super funds and other big institutional investors, by creating a deeper and more liquid market.

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\ INVESTMENT STRATEGY

GETTING

real

about FACTORS

By Amanda White

FACTOR INVESTING HAS BECOME A TOPIC DU JOUR, with managers touting hundreds of different factor-based strategies.

But according to FOUR EXPERTS, only a handful are persistent and robust. IF USED STRATEGICALLY, THEY CAN BE USEFUL. AT THE END of 2014, Campbell Harvey, professor of finance at Duke University’s Fuqua School of Business, in the US state of North Carolina, reported that there were 316 supposed factors reported in top journals and working papers, with new ones being discovered at an accelerating pace – about 40 a year.

Luckily, he found most of the so-called factors can be ignored; in fact, Harvey described many of them as trading strategies rather than factors.

“There is confusion because there are hundreds that I would classify more as trading strategies; some are fleeting,” he says.

So how can investors get their head around factors? And is it possible to identify one that can earn a premium over the long term?

According to Andrew Ang, managing director and head of factor investing at BlackRock, a factor is a broad, persistent source of return, seen across many different geographies and asset classes. To be properly called a factor, Ang – who is a prolific author and academic on the subject, writing 2014’s Asset management: a systematic approach to factor investing – argues something must have been persistently rewarded for decades, and have been studied by academics and used in practice for decades.

This narrows the 316 factors Harvey discovered down to about four.

A PRECIOUS HANDFUL

Experts agree that value and momentum are persistent and robust factors and, depending on one’s perspective, the other two are carry and defensive.

JUNE 2017

More importantly, Ang says, a factor needs as its backbone an economically sensible source of return.

“Is there a risk premium and does it come about from a structural impediment or from investors’ behavioural biases?” he asks.

For $187 billion investment manager AQR, there are two main criteria for identifying factors: robust empirical evidence across many different markets and contexts; and a strong economic theory to support why these returns existed in the past and therefore are likely to exist in the future.

“It’s all about persistence,” Ronen Israel, principal at AQR, says.

There are only a few that fit AQR’s criteria, and that’s value, momentum, carry and defensive (or low risk), he says.

Research on fundamental indexation, an alternative to market-cap-weighted indices, was first published in 2004 by Rob Arnott, now chair of Research Affiliates. Fundamental indexation, which uses equally weighted stocks, argues that cap weighting stocks systematically overweights overvalued stocks and underweights undervalued stocks. And for Arnott, the notion that a factor will produce positive alpha because it has produced positive alpha in the past is naïve.

“When Campbell published the paper showing there were 316 published factors, how many of them asked if the performance benefits from a tailwind of rising valuation?

Did my factor get more expensive? No one asked that question. So the first robust test is

whether a factor produces positive alpha net of valuation change. Nobody [checks] that.”

The second question, Arnott says, is whether the factor works out of sample, across different time spans and geographies.

“We go through all of this and try to find factors that have legitimacy across many geographies net of valuation change, and there are very few,” he says, citing size, value and momentum as fitting that criteria.

“We don’t think that low volatility and quality have alpha, but they do have attractive attributes that people value.”

PUTTING THEM TO GOOD USE

So, given that those with the experience of studying and making money from factors over many years believe that only a few truly exist, the next logical question is how investors should use them. That, Ang says, depends on the outcome the investor wants to achieve.

“What they want to achieve goes into two buckets – to reduce risk (then use minimum volatility or quality), or explicitly enhance your return (use value, momentum or size),” Ang says. “The starting point is a strategic allocation to complement a portfolio, so you add factors you might want to have or hedge factors you may have unintended exposure to. I’d recommend a multi-factor benchmark for this.”

After that, you might consider tilting around a strategic allocation, he says, adding that tilting also means other considerations, such as concentration and turnover, need to be assessed in evaluating the attractiveness of each factor.

investmentmagazine.com.au

INVESTMENT STRATEGY \

AQR’s Israel says: “Take a long-term strategic view and be balanced – investors are generally underexposed to these ideas.

The first order is to get the long-term strategic exposures to these ideas and let timing, and tactical shifts, be secondary.”

Arnott also prefers to get factors as robust as possible and not to play too many games seeking to optimise against fast-changing correlations.

“We try to marry factors with the fundamental index and rely on the fundamental index to create the structural alpha, not the factors, which we think are too unreliable as a source of alpha,” he says.

So while these factor experts might agree there is a small group of factors that fit the criteria of being robust and earning a premium over a long period of time, the definition of each one is not clear.

For example, the underlying concept of value is to buy cheap, and price-to-book is the generally accepted way to implement that. However, Israel says there is no one perfect measure.

“You are trying to capture cheap assets outperforming expensive, in the case of value.

But there is no theory to support [price-tobook] as the only metric to support that. Sales to price, or earnings to price, could be tests.”

Arnott agrees that using the generally accepted Fama-French price-to-book definition of value is way too simplistic.

“If you combine sales-to-price, cashflowto-price and dividends-to-price, which are all robust individually, it will be more robust,” he says.

“Investors have a tough decision to make when choosing a manager…Ultimately, the proof is the result, but you need a decade of results before you can make a decision.”

TECHNOLOGICAL TRIUMPHS

The advancement of technology has allowed implementation and execution techniques to evolve, which Ang says leads to more applications for the general concepts.

“It’s like writing a play using a quill,” he saysHi-Res of using only as a measure PDFprice-to-book - GOOD For Print of value.

“Technology is central AcD PrM to everything GrD SIGN OFF BOX

23

we do.”

Israel advises, however, that there are good and bad things that come out of technology advancements.

“If technology leads to more data mining and factors that aren’t truly there, that’s a bad thing,” he cautions. “But that’s not what we’re talking about here. Being able to trade more efficiently, risk management and without unintended risks – they are all good things.”

So where to from here?

BlackRock’s Ang says the “biggest bang for your buck” is looking at factors in illiquid markets.

“Modelling of a total portfolio in liquid and illiquid markets is a data and technology story and that is totally transformative,” he says.

Factors can be used to hedge unintended tilts or enhance returns across both liquid and illiquid markets. But as these four experts outline, factor investing is harder than it looks and should be approached through a long-term strategic lens.

The comments from Harvey, Ang, Israel and Arnott quoted in this article are taken from an Institutional Investor Journals webcast, “Factor Perspectives: Separating Factors from Fiction”.

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investmentmagazine.com.au JUNE 7 (CMLA). CMLA is a wholly owned but Important Information: CommInsure is a registered business name of The Colonial Mutual Life Assurance Society Limited ABN 12 004 021 809 AFSL201 235035 non-guaranteed subsidiary of the Commonwealth Bank of Australia ABN 48 123 123 124 AFSL 234945. The information is of a general nature only and is not specific advice.

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DEATH MAY BE a certainty, but nothing is certain about death benefit claims – as many a fund trustee will attest.

Disputes about death benefits are among the most common complaints brought against superannuation funds.

This has long been the case but in recent years these disputes have become much more complex.

In the financial year ended June 30, 2016, the Superannuation Complaints Tribunal (SCT) received 429 written complaints relating to death benefits. As noted in the SCT’s annual report, the rising number of disputes over who is entitled to receive a death benefit payment reflects the changing nature of modern households and relationships.

As more people are living in de facto relationships or as part of less-conventional family structures, it is often more difficult to determine who qualifies as having been in a ‘dependent’ or ‘interdependent’ relationship with the deceased.

Disputes over death benefits often arise when adult children object because the life insurance payout has gone to their parent’s new de-facto partner following a divorce.

Many complainants also wrongly assume superannuation death benefits form part of a deceased’s estate.

The growing complexity of death benefit disputes, and the increasingly significant sums of money involved, make it critically important that super fund members continue to have access to a dispute resolution body with the appropriate powers to ensure a fair outcome for all parties.

So, following the budget, it was pleasing to see more detail in the draft legislation on the new external dispute resolution framework that addresses many of our concerns.

While AFCA will have an ombudsmanlike structure, it will also have some stronger tribunal-like powers in relation to superannuation complaints.

One of these powers is the ability to involve other parties who might have an interest in the complaint, including those who might have an interest in BY a death benefit claim. Another is the EVA SCHEERLINCK power to obtain information and

documents about a super complaint, Eva Scheerlinck is the chief executive which ensures access to all relevant of the Australian Institute of information in determinations.

Superannuation Trustees.

The AFCA will also retain the She was formerly a power to require attendance at a practising lawyer. conciliation conference. But, most importantly for both super fund members and funds, the right to appeal against the new body’s decision has been retained.

This is critically important. In a compulsory superannuation system where matters such as death benefit disputes can be incredibly complex and involve large into a one-stop shop for financial industry sums of money, we think it is only fair that disputes. This single body – to be known all participants are given the opportunity as the Australian Financial Complaints to challenge decisions.

Authority (AFCA) – will also replace the Financial Ombudsman Service and the Credit and Investments Ombudsman.

WHAT TO WATCH The AFCA is proposed to begin operating Even with small ‘t’ tribunal powers, the shift from July 1, 2018, with the SCT continuing to an ombudsman model has the potential to operate until July 1, 2020. to change the way claims are processed.

A range of industry bodies, including With a tribunal, the claims process is the Australian Institute of Superannuation entrenched in legislation. In an ombudsman Trustees, have previously voiced concerns structure, some guidelines – such as the time that rolling the SCT into a larger body limit for lodging a claim – can be changed NEW ONE-STOP SHOP could cause important consumer protection without any public debate.

In the recent federal budget, it was measures to be diluted or even lost.

Another development is the proposal for announced that the SCT would be rolled the Australian Securities and Investments Commission to have stronger powers to ensure the new body complies with legislative requirements. Additionally, funds will be required to report their internal dispute resolution to ASIC, which will have the power to determine the form and content of this reporting.

Add in the fact that the AFCA board will be responsible for determining funding and how much of this funding is allocated to super complaints, and there are still plenty of unknowns and potential issues for our As the Superannuation Complaints Tribunal is abolished industry and other stakeholders to consider. to make way for the AUSTRALIAN FINANCIAL The transition to the new scheme will need COMPLAINTS AUTHORITY, it’s important to to be carefully managed to ensure a positive ensure consumer rights are not diluted. outcome for both funds and members.

Special powers will be key to AFCA’s success JUNE 2017

investmentmagazine.com.au

SUPER INVESTMENT CONFERENCE

ASI2017

6–8 September

Sheraton Mirage, Gold Coast

Australian Institute of Superannuation Trustees Super Investment Conference “ASI… it delivers on expectations.” Lloyd Williams, Trustee Director - Deputy Chair, HESTA Registrations are now open for AIST’s annual Super Investment Conference (ASI). Join our incredible line-up of leading global experts as we explore the unprecedented geo-political forces at play challenging the investment strategy of profit-to-member super funds.

Pablo Antolin-Nicolas

Organisation for Economic Co-operation and Development (OECD) (Netherlands)

Isabelle Scemama AXA Investment Managers (UK)

Jing Ulrich

J.P. Morgan Chase (China)

Melody Hobson Ariel Investments (USA)

Farah Foustok

Lazard Gulf Ltd (Dubai)

Stephen Kinsella

University of Limerick (Ireland)

For more details and to register visit www.aist.asn.au

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An industry-led RG 97 toolkit is on its way Help is on the way for the superannuation industry ahead of the September 30, 2017, deadline for compliance with the NEW RG 97 COST DISCLOSURE REGIME. ASIC is also responding to individual questions, but these responses are not published on its website. This approach is a double-edged sword.

INFORMATION ASYMMETRY

Many areas of RG 97 are open to interpretation. Someone who has received guidance is better placed to adopt a position consistent with their communications with ASIC. This inconsistency is concerning, BY as it means that the information ultimately provided to investors may NATHAN HODGE not be meaningful and certainly

will not be comparable. There is Nathan Hodge is a partner at law firm also the potential to distort fee and King & Wood Mallesons. He is the lead cost disclosure, creating competitive author of the RG 97 Industry disadvantages for the prudent.

Working Group toolkit.

To address these issues, I have been working with the RG 97 Industry Working Group and the Australian Institute of Superannuation Trustees to develop an RG 97 ‘toolkit’. It leverages the good work of the Financial Services Council in its Guidance IT’S NO SECRET that the new indirect Note 34. cost disclosure regime for superannuation and managed funds has been problematic.

Since its inception, the Australian Securities and Investments Commission’s (ASIC) Regulatory Guide 97, known colloquially as RG 97, has raised several red flags.

Notably, there have been constant deferrals and the need for three separate ASIC Class Orders to explain the rules. But these signs merely scratch the surface of the challenges The regime touches of complying with the regime. a variety of units within To be fair, ASIC is trying to help.

The regulator has issued formal guidance organisations, not just the and more informal Q&A documents. investments team However, these were never intended to be comprehensive or detailed, and do not delve into the minutiae necessary for compliance with RG 97.

JUNE 2017

The toolkit will cover compliance with RG 97 by managed funds and all different types of superannuation funds, with a focus on the ‘how to’ of compliance.

Topics will include: • Common investment structures • An explanation of common fee types • Structures and diagrams for determining interposed vehicles • Best-practice processes to obtain the required indirect cost information from a fund manager • Calculation methodologies • Product Disclosure Statements (PDS) and other disclosures.

MANY TOUCHPOINTS

The toolkit will be valuable to all. While those with only limited knowledge of RG 97 will get the most benefit, the level of detail included will mean that even those with high RG 97 expertise will learn something.

The regime touches a variety of units within organisations, not just the investments team.

In my observations, those organisations that are most advanced in RG 97 compliance are those that have taken a cross-discipline approach, including investments, finance, product, custody and administration.

The toolkit will include content tailored for each of these teams.

In addition to helping individual organisations, we hope the toolkit will promote a consistent industry-wide approach.

Without consistency the regime will not provide consumers with clear and comparable cost disclosures.

The industry working group is aiming to release the toolkit early in the new financial year to give organisations time to use it prior to the September 30, 2017, deadline. However, the industry should expect further versions as the working group progressively settles its position on issues.

investmentmagazine.com.au

October 1-3, 2017 MIT, Cambridge, US – T H E T ECH N O LO GY RE VO LUTIO N – The Massachusetts Institute of Technology is recognised as the world’s leading school in technology.

Drawing on the institute’s academics and some of the world’s leading investment thinkers, the Fiduciary Investors Symposium, top1000funds.com’s flagship event for asset owners, will explore how technology will transform the investment world, from the business of doing business to the political and social issues the ongoing technological revolution will most certainly deliver.

At the Symposium, MIT’s esteemed faculty – including Kate Darling, Caleb Harper, Nobel Prize winner Robert C. Merton and Antoinette Schoar – will explore innovation in finance and the role of finance in the broader world in which we work and live.

C ON FIRMED ACAD EMIC SPEAK ERS

KATE DARLING

CALEB HARPER

ROBERT C. MERTON

ANTOINETTE SCHOAR

Research specialist, MIT Media Lab Fellow, Harvard Berkman Center

Research affiliate, principal investigator and director, Open Agriculture Initiative (OpenAg), MIT Media Lab

The School of Management Distinguished Professor of Finance, MIT Sloan School of Management; University professor emeritus, Harvard University

Michael Koerner ’49 Professor of Entrepreneurial Finance, MIT Sloan School of Management; Chair, MIT Sloan School of Management Finance Department

Go to fiduciaryinvestors.com to review the program or register your attendance.

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Talking about culture

SLOWS REAL CHANGE Like love, true leadership is difficult to define but undeniable.

Too often individuals point to problems of ‘culture’ holding their organisation back from greatness, when what they should be doing is LOOKING INWARD AND MAKING CHANGE THEMSELVES.

By Amanda White Photo Matt Fatches

GENUINE LEADERSHIP THAT effects transformational change is urgently required within institutional asset owners if they are to evolve into full-service financial services organisations, but this is difficult when the notion of leadership itself is undergoing a quiet revolution.

Transformational change is a rare beast among asset owners says Roger Urwin, head of investment content at Willis Towers Watson. But he identified five funds globally as exemplars of it: Australia’s $148 billion Future Fund; the UK’s £25 billion ($43.8 billion) Railways Pension Scheme; the US$289 billion ($390.1 billion) California Public Employees Retirement Scheme; and two Canadian funds, the C$116 billion ($115 billion) PSP Investments and C$298 billion ($295.5 billion) Canadian Pension Plan Investment Board.

Urwin’s advice for organisational change among investors is to differentiate between the operating model – which includes culture, leadership, talent, reward and technology – and the investment model, including how assets are allocated and to what they are allocated.

Daniel Garant, chief investment officer

JUNE 2017

of PSP Investments, one of the leading funds nominated by Urwin, says a change of leadership at the chief executive level was a catalyst for his fund to look at how it allocated assets in the context of the total portfolio.

“We realised the silos you end up with are a collection of different assets that aren’t optimised at the total portfolio level, so we changed that a couple of years ago. We were faced with great investment opportunities but they didn’t fit anywhere. The principle I came up with is if it’s good for the fund then we’ll find a way to make it fit. We still do strategic asset allocation and asset liability modelling but if we come across a strategy that is good we make it fit,” he said.

One example of that is a private debt investment to which the fund allocated C$1 billion ($1 billion).

“For the private debt asset class, it didn’t make sense; it was too big for one deal. But we decided to do it because on a total fund basis it made sense. You need to look at what moves the dial for the total fund,” he said.

Urwin said transformational change at institutional asset owners is rare because these organisations “don’t have a burning platform” to spur change. Across the industry

change is more linked to the concept of good to great, which is an incremental concept, he said.

But incremental change, especially in difficult market environments, is unlikely to have much impact on the way investors conduct their business, nor ultimately on returns.

Urwin and Garant were speaking at the Fiduciary Investors Symposium at INSEAD in April. INSEAD has been voted the number one MBA school globally by the Financial Times. The faculty of the school, including INSEAD’s associate professor of organisational behaviour Gianpiero Petriglieri, were among the speakers.

investmentmagazine.com.au

LE ADERSHIP \

GIANPIERO PETRIGLIERI INSEAD’s associate professor of organisational behaviour

THE FIDUCIARY INVESTORS SYMPOSIUM

was held at INSEAD in Fontainebleau, France from April 2-4, 2017. INSEAD’s MBA program has been ranked number one by the Financial Times for the last two years, and the program of the Fiduciary Investors Symposium drew on the academic faculty of the school to focus on business excellence and leadership. For more stories visit top1000funds.com

For Garant, Pertriglieri’s concept of leadership transcending personal and organisational change rang true, given a change in leadership was the impetus for organisational change at PSP Investments.

“We felt, compared to our peers who were trading in private equity, that we didn’t have a global presence or portfolio, and we didn’t have private debt. A few months after the new CEO joined, we opened a New York office dedicated to private debt. This was a big plus, as you hire experts who have been doing it for decades,” Garant said. “But you also have the complexity of adding people who have never worked at PSP before. It’s much tougher than people believe to bring it together. We also opened a London office focused on private equity and it was all done within a year, because people wanted results quickly and wanted change to be permanent and dramatic.”

In the Australian context, organisational change has been rare at big asset owners.

However, two organisations that have been focused on it are the Future Fund, as identified by Urwin, and the NSW State Government fund TCorp, which had change forced upon it via a merger with State Super and NSW WorkCover.

Susan Doyle, who is chair of the TCorp investment committee, was one of the founding board members of sovereign wealth manager the Future Fund. She said when the sovereign wealth manager was first created the issues of culture were front of mind.

“The strategic side of investments was straightforward. But the culture side of it was not. How you assess it is a challenge for our industry. It is very costly for organisations to figure out culture,” she said.

THE MY TH OF CULTURE

TRANSCENDING CULTURE

Petriglieri said true leadership transcends the difference between personal and organisational change.

“Leadership erases that distinction.

Personal change for leaders will result in the organisation adjusting, and vice versa.

The most significant quality the leader can have is to deal with ambivalence. Most of us like the idea of change but not the practice of change,” he said.

investmentmagazine.com.au

Petrigielri believes, however, that there is no such thing as organisational culture.

“Look at the people; they are the culture.

Look at how you allocate resources and what you reward positively and negatively. If you change those things, then you are changing the culture, everything else is rhetoric,” he said.

Urwin pointed out that, in the context of culture and people, asset owners have the distinction of having a strong purpose, of investing on behalf of other people, but he added that not enough organisations have marshalled that as motivation.

Garant agreed and said PSP Investments

was using its sense of purpose as a tool to distinguish itself from different actors in the financial markets.

“Adding a local presence in London has increased our access and talent pool,” Garant said. “But it’s expensive, and you get a sub-culture. You need a mix of local talent and people from head office, so you have one culture not many cultures.”

REDEFINING LEADERSHIP

At the core of organisational change is leadership, but Petriglieri said the outcome of what we understand and practise as leadership “is no longer a good fit for the world in which we live”.

“Good leadership is hard to define.

There is no empirical evidence of leadership – like there is no empirical evidence of love.

They manifest themselves when you see some kind of behaviour.”

Leaders, he said, have such a sense of ownership over a community to improve or change it, they have a committed vision; and leadership can be explained as an exchange of meaning for trust.

“If you observe a leader, look at whether they get stuff done, and do people trust them?” he said.

How leaders are defined and identified needs upgrading, he said. Competence is no longer enough. In a world that has shifted from a mono-culture to nomadic leadership, leaders struggle to connect with potential followers and face resistance and mistrust.

“We are still using an idea of leadership developed in the mono-culture, but we have a different world, now leaders struggle most with connections,” Petriglieri said.

“As a leader, you have to show you’re more than devoted; however, now we live in an age of nomadic professions, so leadership is not about how you stand out but how you have enough connections.

People are more devoted to their work than to the organisation.”

Petriglieri, who is also the academic director of the INSEAD Initiative for Learning Innovation and Teaching Excellence, suggested a different definition of leadership in a multi-culture enterprise.

“I believe leadership can be defined as: the courage, capacity, curiosity and commitment to work with, learn from and give voice to the other.”

“It’s a lot harder to have that type of skill,” he said. “The commitment to a counterculture always puts you on the edge, it’s difficult.”

JUNE 201 7

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THE INSURANCE IN Superannuation Industry Working Group is seeking feedback on a range of proposals around how the sector might develop and adopt a consistent set of rules. This would include the capping of premiums for insurance cover provided automatically to members and deciding when this cover begins, continues and ceases.

Settling these issues would help trustees ensure we strike an appropriate balance between making sure members get good value in insurance cover and preserving their retirement savings. It could also improve BY community knowledge and acceptance RICHARD WEATHERHEAD of how insurance in super works.

Those of us who work in the group insurance industry justifiably pride Richard Weatherhead is the head of insurance at AustralianSuper, the nation’s ourselves on the service provided to largest industry superannuation fund, fund members, their families and the with more than 2 million members and community more broadly. But we have $110 billion in funds under to acknowledge that, for some members, management. the result is sub-optimal. We can do more to improve our value proposition.

Two ideas that can improve group insurance Determining caps on premiums for automatic cover and deciding when this cover begins, continues and ceases should improve community acceptance of HOW INSURANCE IN SUPER WORKS. The industry working group is on the case.

Industry Working Group (ISWG) was formed in November 2016 to identify the key areas where reform is needed and develop a code of practice for trustees, supported by guidance where appropriate, for the ultimate benefit of fund members.

The ISWG has made too many proposals to address in one short article but there are two that I would like to highlight.

CAPPING PREMIUMS

Automatic (or default) insurance is the only life or disability insurance most workers have. Group insurance provides cover to

JUNE 2017

many who, even if they could afford it and wanted to, would be excluded from purchasing individual insurance due to pre-existing health conditions. The downside is that the premiums can erode some low-income members’ ultimate retirement balance.

Should there be a limit on the amount of cover automatically provided? The problem with that is that different funds have members with different insurance needs and the cost of cover might vary.

It would appear to unnecessarily constrain the trustee.

It is premiums that erode retirement balances, so the ISWG is suggesting a cap on automatic insurance premiums.

This might be a simple dollar amount, a percentage of compulsory superannuation guarantee contributions, a maximum erosive impact on projected retirement balances, or another measure or measures. The cap may even need to change by age.

Work is under way to determine the optimal limit, with the objective of ensuring it protects against balance erosion for all types of members – those with small or large account balances, low or high salaries, full-time, part-time or casual employment and other characteristics.

COVER TRIGGERS

One of the more challenging aspects of group insurance design is when cover starts and stops. Should insurance cover commence only once a member’s account has reached a certain balance, so that premiums do not represent a significant proportion of their savings? On the other hand, would that mean thousands of members would not be covered at an important time in their lives – just after they have started work?

Continued and unbroken cover is clearly important for members. On the other hand, continuing to deduct premiums once a member has stopped receiving contributions (from their employer or otherwise) can have a severe impact on their retirement balance.

Trustees must balance these competing objectives.

The ISWG believes the industry should work towards common rules for continuation and cessation of cover.

CONSULTATION OPEN

To date, the working group has published three discussion papers on: account balance erosion due to duplicate insurance premiums, claims handling, and member communication and engagement. Six further discussion papers will be published over coming months, covering topics ranging from total and permanent disability definitions to insurance data.

These are available on all the industry association websites and feedback is encouraged, particularly from fund executives and trustees.

I encourage all readers to review the discussion papers and provide feedback to AU-FMIswg-PMO@kpmg.com.au.

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