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The performance test that isn't is here, now what?

BY ALEX DUNNIN | FRIDAY, 3 SEP 2021   4:01PM

Well, it's finally here. The day of the APRA super fund performance test has arrived. But whatever you, me or anyone thinks of it, it's time we got one thing straight: it's not a performance test.

But first things first. For decades the regulator has been assessing super fund performance and since 2014 has been publishing MySuper performance. What they are doing now is nothing new.

This simply reminds us how the Your Future Your Super legislation governing the test has never been about giving APRA more powers. It was always about the government wedging them into using its already considerable powers but much more aggressively.

The so-called performance test isn't for several reasons. Starting with how super fund RSEs have no laws governing the asset mix of any MySuper product they operate, yet asset allocation is the basis on which they are now being judged.

And it's not even actual asset allocation but strategic allocation - over seven years. Sure, APRA says that's because it wants to judge funds by what they set out to do, but what's more important: what someone said they would do, or what they actually did?

More bizarrely, the fees being used to derive funds' net returns aren't their actual fees either. Even worse, it's not overall returns being assessed but asset class value-add.

All of which means the test doesn't measure performance, but it is in a way trying to measure a kind of investment efficiency. But measured not against what funds actually achieved but against some type of hybrid theoretical measure.

But none of this matters. APRA is the Big Dog and it's their junkyard. Super fund RSEs have little choice but to cop what they've been told on the chin especially as it's all laid down in law, leaving APRA little room for discretion - recall the real purpose of YFYS.

Nevertheless, comments by the regulator when the results were published give us a hint about what they are really thinking, meaning any RSE looking for sympathy should look elsewhere.

All of which means the test is here to stay, at least for a while, and given the high stakes, any RSE that doesn't set about gaming the system to score well is crazy-brave naïve.

The test meanwhile carries a none-too-subtle message for RSEs: anyone who wishes to run a MySuper product should relentlessly focus on headline investment performance, but not across the product, within the asset classes.

Product objectives, fund membership demographics, investment style, risk-adjusted returns no longer seem to count for much. For many RSEs this will be quite a sea change that they have no choice other than to get used to.

We can meanwhile puzzle over how funds with higher returns failed yet funds they out-performed passed. But a broader question might be how can the regulator have an assessment test that has an 84% pass rate?

What now then? What will be the impacts of all this? Here's Rainmaker's predictions, some of which are good, a few not so much.

Because the test does not reward insightful asset allocation, it will encourage super fund RSEs to shift to simple asset mixes focused on asset classes that are easier to beat.

Reflecting this, RSEs will realign their asset allocations to line up with the test's benchmarks. Case in point is the realignment announced this week by Rest Super, we should expect many more funds to follow suit.

It will encourage RSEs to put more money into indexing. This will lead to lower fees. It will discourage RSEs from investing into asset classes like unlisted infrastructure, direct property and development capital.

If an investment can't be easily benchmarked, it's business case is now on life support. This means life might soon get tough for hedge fund managers, at least for those counting on winning super fund mandates.

It will discourage RSEs from investing into nationally significant projects or following ESG philosophies unless there is hard financial and demonstrable value-add. ESG investing is now a brutal numbers game if it wasn't already. Divestment as a goal in its own right is dead.

And if there are any investment managers and asset consultants thinking they are just innocent by-standers to all this, they better think again. The pressure they will face is about to go stratospheric.

Never forget that superannuation policy and superannuation funds don't exist to serve the needs of investment managers and consultants. It's the other way around.

The purpose of the test was to shake-up superannuation. Well it's sure done that.