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Decentralised portfolio management: analysis of Australian accumulation
funds
Hazel Bateman (UNSW)Susan Thorp (UTS)
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There is increasing investment choice in Australian superannuation
Investment choice offered by 78% industry funds, 76% retail funds, 60% public sector funds
Av. 7 choices (industry funds), 59 choices (retail), 6 (public sector)
85% assets are in super funds offering investment choice
(Source: APRA 2005)
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Choice menu
Not-for-profit super funds: multi-manager diversified portfolios (capital guaranteed, capital stable, balanced, growth etc….) trustee boards (and their advisors) then choose
specialised investment managers (mandates) on behalf of members - delegated choice of investment managers
401(k)s (US), Premium Pension (Sweden), Australian retail funds, offer members direct choice of specific investment managers Av. 10-12 for 401(k) plans and up to 5 from over
650 for the Swedish scheme, av. 59 for Australian retail funds
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Delegated funds management in superannuation
Member contributions into investment options
Cash Balanced GrowthCapital stable Asset classes
Trustees (+ asset consultants)
Investment mandates
Dom stocks Dom FI Property Int’l stocks Int’l FI Diversified Cash
Investment returns
Crediting rates
Cash Capital stable Balanced Growth Asset Classes
Taxes, costs, smoothing
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Mandate trends
1 to 59 mandates per super fund (av. 12)
Av. 22 mandates per manager
Large super funds more mandates than small super funds
Diversified mandates becoming less popular (15% in 2004, down from 50% in 1998)
(Source: Rainmaker 2004)
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Does this additional layer of management create value for retirement savers?
1. What is the impact of using more managers (mandates)?
2. Do these delegated investment funds do better than a group of standard asset indexes?
3. Are trustees (and their advisors) able to choose managers with more skill than an uninformed investor?
4. Are the benefits, if they exist, passed on to members’ accounts via realised crediting rates?
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Data
Construct a monthly series of portfolio returns for nearly 200 not-for-profit super funds
=
Mandate weights from Rainmaker 2004 survey of mandates for not-for-profit super funds (90% not-
for-profit sector, 1/3 superannuation assets)
+
3 years of gross monthly returns for each investment manager (Jan 02 – Dec 04)
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1. What is the impact of using more managers
(mandates)?
.
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Average annual investment return by individual fund Jan 2002-Dec 2004
0
2
4
6
8
10
12
14
59 37 33 27 22 21 18 16 15 13 12 10 10 8 6 5 4 2 1 1
number of managers
retu
rn, %
p.a
.
Mean return declines as mandate numbers decrease
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Annualised standard deviation of monthly return by individual fund
Jan 2002 - Dec 2004
0
2
4
6
8
10
59 36 31 26 22 20 18 15 13 12 10 10
7 6 5 2 1 1
number of managers
stan
dar
d d
evia
tio
n,
% p
.a.
Highest risk: funds with 6-12 mandatesLowest risk: funds with 13-22 mandates
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Return to risk ratio by individual fund
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.559 36 30 25 21 18 16 14 12 11 10
7 6 4 2 1 1
number of managers
aver
age
retu
rn/s
tan
dar
d
dev
iatio
n
Av. return/risk for >12 mandates is 1.3 (1.0 for < 13)
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Pooled data (4 groups) to allow additional analysis of fund vs fund
Tested for significant differences in realised volatilities between the 4 groups
Least risky returns for super funds with 13-21 mandates with no significant reduction in risk from adding more mandates
No significant reduction in risk when move from 1-5 to 6-12 mandates
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Pooled data (4 groups) to allow additional analysis of fund vs fund
Tested for stochastic dominance to investigate whether the differences between realised portfolio returns matter to a risk averse investor
Returns from larger mandate groups dominated returns from all other groups (and would be preferred by risk averse investor)
Except - no clear ordering over returns to 1-5 and 6-12 groups
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Overall – fund vs fund
Super funds with >12 managers (mandates) show significantly less volatility and overall higher returns than super funds using < 13 mandates
No significant advantages to members of super funds who choose 6-13 rather than less managers
Super funds with more mandates preferred by risk averse investors
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2. Do these delegated investment funds do better than
a group of standard asset indexes?
.
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Spanning tests to compare actual fund performance against a benchmark constructed from a set of asset class indexes
Excess returns on = (Excess returns on
benchmark index actual super fund
portfolio)
Test null < 0
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Results: super funds vs benchmark
Optimally diversified benchmark -> no super fund in sample spanned the benchmark
Equally weighted benchmark -> 25% super funds in sample spanned the benchmark
Probability of spanning increased with number of mandates -> 50% super funds in largest group
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3. Are trustees (and their advisors) able to choose managers with more skill than an uninformed
investor?
.
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Spanning tests to compare random selection of fund managers (vs benchmark) to actual selection by super funds (vs benchmark)
Unconstrained selection of fund managers random choice more likely to span benchmark
than actual funds in 1-5 and 6-12 mandate groups
Constrained selection – at least one manager per asset class Random choice more likely to span benchmark
than actual funds in all except 22-59 mandate group
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Results: simulated super funds vs benchmark
Delegated investment choice no better than an individual following a naive diversification strategy
Except where super funds used many mandates (22-59)
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4. Are the benefits, if they exist, passed on to members’
accounts via realized crediting rates?
.
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Crediting rates and investment returns by mandate group, June 2003 - June 2004
0
5
10
15
20
22 to 59 13 to 21 6 to 12 1 to 5
number of mandates
per
cen
t p.a
.
crediting rates investment returns
Funds with 22-59 mandates appear to generate higher investment returns, but similar crediting rates
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Conclusions
Funds with few mandates performed poorly Funds with many mandates add value on risk
adjusted basis and more likely to span an equally weighted benchmark
Uninformed individuals with naive diversification strategy perform better than many actual mandate selections
Unclear whether better investment performance of funds with many mandates translates into higher crediting rates
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Coming up next……
Repeat for choice menu of Australian retail funds
Use fund specific data to analyse characteristics of funds with superior performance
Further investigate gap between gross investment returns and crediting rates
Extend analysis to actual choices