A landmark report by the Productivity Commission has slammed the performance and transparency of the $2.6tn superannuation industry. It has made major recommendations directed towards making it easier for workers to choose their default fund, gain better returns and higher retirement balances, and to drive underperforming funds out of the industry.
The report, released on Tuesday, is the third stage in the commission’s examination of the superannuation industry, which came out of recommendations from the Murray inquiry into Australia’s financial system, and assesses the industry’s efficiency and competitiveness.
And it finds much wanting.
Over a quarter of the 74 funds offering a MySuper product failed to meet benchmark performance returns – accounting for 1.7 million member accounts and $62bn in assets. And such was the lack of transparency in the system that a mere five funds out of 208 provided the commission with information on their rates of return across all 14 assets classes, and 71% gave no response on the level of fees for related parties.
The commission found it to be an industry with little sense of competition or accountability. It aims to change that. It also seeks to lower fees, given it found that they are higher “than those observed in many other OECD countries”.
This is not just some theoretical issue – the commission estimates that a third of super accounts (about 10 m) are unintended multiple accounts – joined purely because of taking a different job. It estimates the fees and premiums in these accounts “erode members’ balances by $2.6bn a year.”
The commission calculates as well that if members in underperforming MySuper products had instead been moved to the median of the top-10 performing products, “they would collectively have gained an additional $1.3bn a year.”
Early last year the commission’s draft report proposed a shake-up of the way the default superannuation system is organised. Currently the biggest beneficiaries of the default system are industry funds as the fund can be made default as part of an enterprise bargain agreement.
The banks of course would love to be able to get their hands on that money, given new entrants each year bring $1bn into the system.
But the proposed system should give very little comfort to the retail superannuation sector, which is shown by the commission’s research to be woefully underperforming.
It’s no real shock that retail funds on average perform worse than industry or corporate funds (which cover specific employees – such as Telstra and Qantas). Annual data from the Australian Prudential Regulatory Authority has consistently shown this to be the case.
In every year since 2007-08, retail funds have on average had the worst five year annualised rates of return. In the five years to 2016-17, retail super funds averaged a return each year of 8.1%, compared with the average of 10.2% for industry funds:
On an annual basis, in every year bar one of the past 14, industry super funds have on average outperformed retail funds:
But what the Productivity Commission has discovered is that while the averages certainly favour industry funds, that does not mean being in an industry fund guarantees you good performance.
The commission found that of the 20 underperforming funds, nine were retail (more than half of retail funds), six were industry, three were corporate and two were for public service. And of the 26 underperforming default products, 12 were retail, 10 industry, three corporate and one public sector products.
Of the worst 10, five were retail funds, three were industry and two were corporate.
The problem is it is basically just bad luck should your employment mean you end up in one of those dud funds or products.
And it is a costly bit of bad luck.
The commission estimates that a 21-year-old full-time worker with a salary of $50,000 who is in the median underperforming MySuper product would retire with a balance $375,000 lower than if they were in the median top-10 product – equivalent to seven and half years’ lost pay.
To combat this, the commission proposes that rather than have a default fund, new employees submitting a TFN (tax file number) would be able to choose from a list of up to 10 of the best funds.
This list of the “best in show” would be decided by an independent panel against clearly defined and published criteria, and would be updated every four years.
The commission argues the list should be chosen “on the basis of achieving the best outcomes for members” and “should particularly consider long-term net returns and fees, as well as each applicant’s investment strategy, intrafund advice, governance and track record on identifying and meeting member needs”.
When starting a job, workers would go to the ATO website, see the list (which would be randomised so as not to give advantage to the first listed fund) and also have “simple and comparable metrics on each product’s features.”
The commission found that under such a system young workers would be able to make informed choices and be clear about what they were most concerned about – namely fees and rates of return. This certainly works in favour of industry funds, given the commission found that fees for such funds “on average remain well below the fees charged by retail funds”.
The list would no doubt be very contentious – as would the appointment of panel members by the government of the day.
The commission argues that, as the responsible minister would not be able to override their recommendations and the list would be subject to judicial review, the process should not become politicised – especially as the criteria would be clearly set out.
This process would create a massive incentive for funds to perform well – but brings with it also a greater level of transparency that would have flow-on effects even for those in self-managed super funds and for underperforming funds.
The creation of a best in show list would mean, for example, that financial advisers would need to justify why they are recommending a client not join one of those funds – especially if it is shown to be underperforming against the benchmarks.
The commission also recommends giving Apra more teeth.
It recommends legislating for the Australian Prudential Regulation Authority to apply the MySuper outcomes test, and that authorisation (legislation for this is currently before the Senate) and MySuper rules be strengthened so that funds are required to audit-level standard verification of their outcomes test assessment, with comparison against other products in the market, and determination of whether members’ best interests are being promoted, at least every three years.
It also recommends that funds report to Apra each year on how many of their MySuper members have switched to a higher-fee choice product within the same fund – to prevent those funds on the “best in show” list using it to “upsell” members into weaker-performing and higher-fee paying products.
The commission argues that should funds fail to meet these conditions — or persistently underperform over five or more years – Apra should repeal their MySuper authorisation.
And that would be death for the fund – something the commission would welcome.
Karen Chester, the deputy chair of the Productivity Commission, argues that this process should see underperforming funds either improve, exit the system or merge with a better-performing ones that would provide better outcomes for its members.
She argues underperforming funds “need to be accountable for their performance” and “own the outcome for their members”, asking themselves “can I lift my game? If the answer to that is no, should I exit or should I arrange a merger? Which of those two options is in the best interests of my members”.
She argues such a process is better than the regulator having to step in and decide the fate of the members.
The report will no doubt be seen as highly political – it recommends, for example, the passing of the legislation before the Senate that would see stronger reporting on the outcomes test for MySuper funds, but also that one third of all fund directors be independent – something that would mostly affect industry funds given their directors are notionally split between employer and employee representatives.
But given industry super funds accounted for eight of the top 10 funds and 14 of the 18 top-performing default products, it should not be afraid of this report – it vindicates their performance.
And the best in show list would likely reward industry funds – and more importantly, bring rewards to workers both current and future.
• Greg Jericho is a Guardian Australia columnist
