Accumulation Default Investment Strategy

Transcription

1 Accumulation Default Investment Strategy 1. Rationale for restructuring the Default Option 2. Investment principles 3. Cohort structures 4. Investment strategies 5. Implementation

2 Rationale Members bear investment risk but delegate strategy to Trustee. Super funds have same strategy, across funds and across time; despite: Structural changes in asset return/risk fundamentals. Change in contribution rates from 3% to 9% to 12%. Removal of superannuation end benefit tax. Developments overseas in DC management strategies (eg target-date funds).

3 What we are trying to do Reflect different risk tolerances between default members. Deal with IRRs not time-weighted returns. Manage risks and opportunities: Sequence of returns. Varying contribution rates (workforce participation). Longevity risk. Recognise that younger members projecting 12% contributions are accruing significant balances. Use investment strategy to contribute to this. Manage cohorts, not individual members.

4 We apply ALM Recognise that the ultimate objective is creating income streams in retirement. Assets: Account balance Future contributions Centrelink Investment returns Liabilities: Cash flows in retirement Tax and other expenses

5 Investment Principles QSuper has 13 general investment principles These guide our asset only Choice Options We supplement these with 10 ALM specific investment principles

6 ALM Investment Principles 1. ALM represents the process of managing a cohort of members assets to meet our best estimate of their actual liabilities. 2. Invest to not through retirement, in early stage ALM. 3. Define risk as not achieving the retirement income objective. 4. Analyse the level of risk for each cohort by starting with a risk-free baseline. Add investment risk only to the extent warranted. 5. Construct cohort strategies by combining a unique risk-free asset with a common pool of risky assets.

7 ALM Investment Principles 6. Respond dynamically to changing investment environment and cohort characteristics. 7. Members typically have asymmetric risk preferences. 8. Assume members have Centrelink entitlements, under current policies, into the foreseeable future. 9. This is innovative. We anticipate an extended period of continuous improvement in future years. 10. Cohort boundaries, investment objectives and investment strategies are set at a group level.

8 2. Invest to, not through In the early stages we are focusing on the accumulation phase. Members withdraw some assets soon after retirement. Real risk tolerance changes at retirement. They can no longer replace lost capital through contributions. Volatility around retirement point amplifies sequence of return risk. Behavioural risk tolerance changes at retirement. They feel loss from downside much more acutely than they value gains from windfalls. Members become entitled to Centrelink at retirement. The approach does not mandate inherently conservative strategy. We remain cognisant of investment strategy implications post retirement. Members can opt-out.

9 4. Start from risk-free asset Evaluate outcomes assuming assets are fully invested in the risk-free asset. This creates baseline or benchmark for the cohort going forward. Then iteratively evaluate outcomes of adding risky assets (i.e. add investment risk only to the extent warranted). Consider using excess assets which are accumulated over time above the risk-free baseline as available to invest in risky assets. This does not mandate conservative strategies. If risk-free rates are low there is an incentive to adopt strategically higher risk weightings and vice versa.

10 Cohort Structures Use age as a starting point. Age is a good proxy for investment horizons and member risk tolerance. But it is imperative to also include other factors: Account balance Salary Contribution rate Variable retirement dates (later) Funded status Establish homogeneous cohorts with reasonably narrow distributions. Similar in some concepts to a DB Fund measure of solvency.

11 Setting Investment Strategy 1. Set an investment objective (target income replacement rate or $ at retirement). 2. Identify a cohort s assets and liabilities (on average). 3. Calculate the baseline risk-free investment return outcome on assets and liabilities. What income would be produced with relative certainty if no investment risk was taken? 4. Consider if investment risk is warranted through alternative strategies (increasing risk levels) and evaluate using different risk measures. 5. Review alternative strategies iteratively to select the final strategy. Trade off certainty against potential downside and upside of final outcome. 6. Model the assets and liabilities under different scenarios and test sensitivity to all assumptions (returns, contributions, retirement age etc). 7. Review and manage dynamically over full lifecycle of the cohort.

12 Implementation Strategies will be constructed from a mix of: A liability hedging (risk - free) asset; and Risky assets producing a solid risk premium The % mix between the two will designate the cohort strategy risk level. The hedging asset pool represents the baseline strategy. For most cohorts this would create long term opportunity cost and the ALM process can quantify this trade-off to identify most desirable risk level.

13 10 ALM Investment Principles Cohort 1 Risk - free assets Inflation Int Rate Hedge Hedge 13 Investment Principles (asset only) Risky Assets Cohort 2 Inflation Hedge Int Rate Hedge Equities Real assets Bonds Alternatives Cohort 3 Inflation Hedge Int Rate Hedge Cohort 4 Inflation Hedge Int Rate Hedge

14 Conclusions It is Defining risk in terms of future expected retirement income, not absolute or relative investment returns. Seeking to improve outcome certainty by varying risk levels over time in response to expected economic and investment environment. Dynamically managed for cohorts of default members. It is not Setting a permanent high exposure to a single risk factor (equities) and just accepting the consequences identically for all members. Unilaterally conservative or merely a higher weighting to bonds or cash. A lifecycle or target-date fund with asset allocation mechanically dependent on age alone.

15 Closing Comments This is a material change to the way we manage default accumulation members assets. Not a perfect solution but we start here and improve over time. We will move on to post-retirement soon. Limited number of initial cohorts allows us to test decision making process and make administrative adjustments. Similar ALM methodology has been used in DB fund since We think this might be what default members already believe we are doing.