Are SMSFs sufficiently diversified?

Christine St Anne | 01 Aug 2012

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Christine St Anne is Morningstar's online editor.


Cash and Australian equities continue to dominate the portfolios of many self-managed superannuation funds (SMSFs).

A recent study by Macquarie and the SMSF Professionals' Association of Australia (SPAA) found that baby boomers who managed SMSFs had increased their allocation to both shares (46 per cent) and cash (12 per cent) over the past few years.

This research is backed up by a number of recent independent studies. Investment Trends also found those in this group had the highest allocation to direct equities, while also holding around 28 per cent of their assets in cash. Around 28 per cent had increased their cash holdings.

It's not surprising these SMSFs are taking an increasingly defensive approach to their investments. The Macquarie/SPAA study also found 44 per cent of these trustees had adopted a more defensive stance.

At the same time, these baby boomers are also largely focused on capital growth, with 60 per cent saying it is their main priority for investment selection, although 50 per cent sought out franked dividends and 33 per cent concentrated on capital preservation.

With these priorities in mind, the question is whether or not SMSFs are sufficiently diversified to meet those objectives.

Multiport technical services director Philip La Greca says the real question is not about diversification, but whether SMSF trustees have the strategy and process in place in order to meet their objectives.

The typical investment objectives include achieving a rate of return above inflation or outperforming a market index by a certain percentage.

"SMSF trustees essentially want to keep their purchasing power throughout their retirement. However, it is important that these objectives are not just motherhood statements. They need to achieve an outcome," La Greca says.

Therefore, an investment portfolio must be constructed to achieve the desired outcome.

"Ultimately, it comes down to whether the asset allocation in a portfolio meets the objectives," he says.


A fistful of cash

Although there is currently a huge allocation to cash, La Greca says trustees are making their cash worker harder.

"Rather than the traditional approach of using cash to 'park' investments, we are finding many trustees are now accessing cash products that are offering better returns than the cash rate. In other words, they are making their cash work for them," he says.

Nevertheless, the general investment view is that cash is not a capital growth strategy. Capital growth, however, remains an objective for many retirees.

HLB Mann Judd wealth management partner Jonathan Philpot says the increase in cash holdings of SMSF trustees reflects the higher yields on offer by the asset class over the past few years.

"Over the past few years, cash was the better-performing asset class. It was also a safe place to put your money. The risk is that this approach could be a short-term strategy and that is not the basis for an investment decision," he says.

"People want their investments to give them sufficient returns in the long term, returns that will give them growth and income for the rest of their lives. And yet many of these decisions are made in the current timeframe."

A diversified strategy is often consistent with an investment approach that gives people income and growth.

According to the latest Morningstar data, cash has delivered 4.4 per cent growth over the year while Australian equities lost 6.7 per cent. Australian real estate investment trusts (AREITs) posted 11 per cent growth, while Australian fixed interest posted 12.4 per cent growth. International equities lost 0.5 per cent.

While shares are positioned to give investors capital growth, La Greca says the higher allocation to Australian equities also means more concentrated risk, given a large part of the Australian Securities Exchange (ASX) is made up of the banking and resources sector.

International equities give investors more exposure to other sectors such as healthcare and technology.

"A lot of investors, including SMSF trustees, have an exposure to international equities that is lower than it should be," Philpot says.

The Macquarie/SPAA survey also highlighted that many SMSF trustees were moving away from managed funds and towards direct equities.

But managed funds are a popular way to invest in international equities. Philpot says international equities can also be accessed through exchange-traded funds (ETFs).

These ETFs are listed on the ASX and give investors exposure to a broad range of companies on international stock exchanges.

Professional advice can also help a trustee effectively diversify their portfolio.

Philpot says that even the more conservative trustees should have some form of growth strategy.

"You need to have income and growth in line with your investment strategy. You need to be invested in assets classes that will give you capital growth," he says.

La Greca says many of his clients' SMSF portfolios reflect a more balanced approach, with allocation across cash, Australian shares, international shares and property.

La Greca says many of these clients are taking a more specialised approach towards their international equities exposure, by investing in emerging market and Asian funds.

Cash still plays an important role in a portfolio and Philpot says it should still be part - but not all - of an investor's fixed-income allocation.

"The old rules still apply when it comes to investing and that includes diversification. These rules are relevant in both good and bad markets," he says.

This report appeared on 2022 Morningstar Australasia Pty Limited

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