Is superannuation still super for baby boomers?
Most baby boomers won't have a lot of money for retirement because they came to superannuation late. But others are more lucky, as Warren Chant – a former director of research, data insights company Chant West – explains to Julian Lorkin for BusinessThink.
BusinessThink: With superannuation, Australia seems to be the lucky country. What in your mind makes it so good?
Warren Chant: Well, first of all we do have a wonderful system, and Australia really is the lucky country. The first thing is that most Australians are in a super system. The second thing is that most Australians are in a very good fund. If we look at returns over the past 27 years – that is, since we’ve had compulsory superannuation – the median fund in what we call the growth category, where most people are invested, the return has been about 8.3%. If you take off inflation of 2.5%, that gives you a real return of 5.8%.
The target of these funds is typically to earn a return of 3.5%. So instead of 3.5% they’ve got 5.8%. That’s an outstanding achievement. It’s great for individuals and it’s great for the government because it lessens the burden on superannuation.
So the next thing [about] why we’re a lucky country is that most members, no matter how much money they have in their superannuation account, invest as though they’re one of the wealthiest people in the world. And the reason is really simple: they get the benefit of scale of the fund that they’re in. So fees are low because of the scale. So if we look at Australian Super, for example, Australian Super has assets of around $160 billion and it’s got around 2 million members .
So that scale, whether you’ve got $10,000 or $100,000 or $1 million, the fees you pay are based on the scale of the size of the fund, and you get the benefit of diversification. So with all that money to invest, funds are able to invest widely across sectors, and sectors that ordinary people can’t invest in. And the benefit of that is you’re getting lower risk than you ordinarily would experience.
And the last thing I would say is the superannuation system was really designed such that a generation of taxpayers doesn’t have to pay for the retirement of a previous generation. Another way of saying that in really simple terms is we don’t want our children and grandchildren paying for our retirement. And the super system is basically achieving that goal. That’s why we’re such a lucky country when it comes to superannuation.
BusinessThink: And how about the difference between superannuation funds? Is there much of a difference between retail funds and industry funds?
Chant: Well, there is. The research at Chant West over the years shows that industry funds on average have outperformed retail funds by about 1% per annum. That’s after fees and tax.
So if we look at the returns over 27 years, then we’re saying that the nominal return was about 8.3% per annum; inflation was 2.5%; which gives us a real return of 5.8%. And by the way, that’s versus a target of 3.5%. So that’s 2.3% that funds have outperformed their target. Now, if you take that 5.8% and the 1% difference between industry and retail funds, the industry funds go to 6.3 % and the retail funds go to 5.3% – that’s the 1% difference.
But in both cases they’re wonderful returns. Even retail funds at 5.3% have still significantly outperformed their target. It’s a wonderful result. So yes, industry funds have done better but it’s not as if retail funds haven’t done well.
BusinessThink: How about those super funds that have most of their members paying at 17%? I’m thinking of some superannuation funds like UniSuper. Are they in a very lucky position?
Chant: Well, members of UniSuper generally are very, very lucky. Their employer pays contributions of about 17.5% of their salary, and so that’s what they contribute, whereas most people are at 9.5%. So, yes, members of UniSuper in particular are in a very good position.
BusinessThink: Risks to the downside, now. The GFC may seem ages ago, a decade ago, but at the same point, supposing there is another global financial crisis, could any superannuation fund just run out of cash?
Chant: Well, it’s an interesting question, and the simple answer is it’s highly unlikely that they would run out of cash. And the main reason for that is that … for them to run out of cash, all of their investments would have to be zero, and that’s highly unlikely.
So when we think of companies in a sense failing, what we tend to think of is they can’t pay their debts. Well, with superannuation funds, they can’t borrow, right? They don’t have debt. And so if the value of the assets fall, it simply falls.
Now, if we look at the GFC, that growth fund that I was talking about before, the median return in the calendar year for 2008 – so most of the GFC – it lost 22%, okay? So that’s a big figure. But interestingly, that amount was recovered within 3½ years.
And a lot of people would have been invested in what we call a conservative fund, so it doesn’t take as much risk as the typical growth fund. In 2008 they lost about 8% and it took them 1½ years to recover that money.
So yes, the GFC was catastrophic, and if you think about that -22%, over a 30-year period prior to that there were only three other negative returns, and they ranged between -4% and -7%. So if you think about it, people at that time when they thought of negative returns in their super essentially were thinking, well, you know, probably a bad year would be -4% to -7%. So when they were suddenly hit with -22% it was a big change. But those that stood their ground, those that stayed in there, in 3½ years they had their money back and they were off and running really well.
BusinessThink: They do seem to. It was certainly a worrying time for the baby boomers. But are we right to say that boomers are now OK, that they’re actually really looking forward to some great returns before they retire?
Chant: Again, it’s a really interesting question. Baby boomers are defined as being born between 1946 and 1964. So if you think about it, as of today baby boomers range between the ages of 55 and 74. So that’s your category for baby boomers as we stand today.
When you look at APRA’s statistics and you say, how many people are in that category, there’s about 5 million people. And their average account balance is $132,000. That is very, very small. Now, you can say, well, there are a lot of self-managed funds, and of our $2.7 trillion total pot, about $900 billion is self-managed funds. Of that $900 billion, 65% have an account balance of less than 500,000 and 85% have an account balance of less than a million.
So when we think of baby boomers we think of the people who are in APRA funds and people who are in self-managed funds. And the reality of life is, most baby boomers do not have a lot of money to live off in retirement. There is a real issue for them. And their problem is that compulsory super didn’t come in until 1992, so many of them didn’t start superannuation savings until 1992, which means they started really late and which means that they don’t have very big account balances, so retirement for them, they may have been the lucky generation in many ways but in retirement they are certainly not so lucky.
BusinessThink: How about couples, because one of the criticisms of superannuation is that men spend longer in the workforce than women, who may take time out to have children, therefore men are better off than women. Is that entirely fair for a couple?
Chant: I have a slightly different view than most in that when I think of superannuation I think of a couple, and you put their superannuation together. So if one of them stays out of the workforce to have children or care for relatives, and that’s typically the woman, that’s a decision that the couple makes.
If that couple stays married all their life, when they come into retirement they just share their super. And even if they divorce, when they divorce they share their super.
But I’ve been reading lately that there’s a lot of information to say that people that have very low superannuation account balances tend not to think about it when they’re divorcing, and they tend not to go to a lawyer. Those that go to a lawyer tend to include it; those that don’t go to a lawyer, which is the majority, don’t include it.
And so in that sense you could say women may well be worse off in super, at least where the couple have a very low account balance. But overall, if you think of them as a couple it’s a decision they make. It’s not a decision where society is kind of consciously trying to disadvantage women.
BusinessThink: And finally, longevity risk: those people who are worried that they’re going to run out of money before they die. Again, we used to have pensions. They were great because they would keep on paying you out for as long as you lived. We don’t have them any longer. Would it be nice to either bring them back, or alternatively, is there anything we can do to balance longevity risk?
Chant: Longevity risk is a real issue, and I can take a man retiring now at 65; he’s got a life expectancy of around 83 years. For women it's around 85 years. And when they get to that age, they’ve then got another life expectancy of eight years. So when you say a life expectancy of getting to 83, half the people will and half won’t. So there’s going to be a lot of people still around at the life expectancy for a 65 year old.
So longevity risk is a big issue and it has been for a long time, and it’s one that the government has been trying to address. Most people when they retire take out what we call an account-based pension and they don’t take out an annuity. So there’s been a problem in Australia for many, many years that a product called a deferred lifetime annuity hasn’t been as attractive as an account-based pension.
But in kind of mid-2017, the government changed various laws to put them on an equal footing with account-based pensions and so we can expect to see more of this product as years go by.
But the fundamental problem is they’re complex. They’re not easy to understand. Even financial planners have trouble understanding them let alone consumers, who don’t necessarily have a strong quantitative background. So annuities do make a lot of sense, and they should be considered as part of a person’s retirement assets.
But I think we’re a long way off. Sort of slowly but surely we’re moving ahead but we’re a long way off that particular product – which is a very good product – actually being taken up by consumers.
BusinessThink: And I’m sure many more will be taking it up in the future.
Chant: I’m sure.