Super industry leaders have defended the design of the Australian super system after the International Monetary Fund’s warning that “liquidity mismatches” are brewing in the local sector.
In its latest Global Financial Stability Report, the UN finance agency expressed concerns about the impact of super fund members being able to switch in and out of investment options fairly easily. Most funds process the switch within three business days but, on average, hold more than 20 per cent of their total assets in illiquid exposure, the report said.
“This flexibility may exacerbate liquidity mismatches between the underlying assets—especially illiquid assets, such as private equity and credit—and plan liabilities because the effective duration of the liabilities has been reduced,” the report said.
The mismatches could prove to be especially detrimental during “a liquidity stress event” and negatively influence member outcomes, it said. And due to pension funds’ large footprint in government bonds, equities, and corporate bonds, the liquidity stress could also “spill over to financial markets”.
But industry leaders have countered by arguing that allowing members to switch funds and investment strategies, and funds’ ability to invest in illiquid assets are essential elements of the system.
Reactions
The Association of Superannuation Funds of Australia CEO Mary Delahunty said flexible switching is an important part of the Australian super system and that the IMF likely considered it “quite unusual given the prevalence of defined benefit arrangements in the [international] comparator group”.
“It is important to note that the great majority of members choose a blended option, so the risk of a potential draw down in, for example, in property is minimal,” Delahunty told Investment Magazine, sister publication of Professional Planner.
“Regulatory oversight further ensures that funds are equipped to handle member switching requests without undermining the stability of the broader financial system.
“ASFA remains confident that liquidity management frameworks across the sector are effective in balancing member choice, a blended portfolio approach, and long-term investment strategies.”
Meanwhile, Cbus chair Wayne Swan said investing in illiquid assets is essential to generating strong long-term return for members.
He also took the IMF report as an opportunity to defend preservation following recent comments by Shadow Treasurer Angus Taylor. The latter spoke of the Coalition’s ambition to “[align] superannuation with other global retirement schemes – like 401(k)”, which immediately drew criticism from compulsory super believers.
In a media statement on the Cbus website attributed to Swan, the fund said “the recent IMF statements on liquidity highlights the risks of cracking the system open and how workers and the economy benefit if the preservation principle remains at the heart of our retirement savings system”.
There are also some questions marks around the scale of the issue as presented in the IMF analysis. The 20 per cent illiquid assets exposure figure referenced by the IMF came from a paper titled Is your industry super fund too lilliquid?, published in May 2023 by Morningstar. It used “unlisted” as a proxy for “illiquid”, and admitted that these are not the same thing.
Morningstar analysed the portfolio holding disclosures of five major super funds – Australian Retirement Trust, AustralianSuper, Aware Super, Cbus and UniSuper – which specified the funds’ allocation to unlisted assets, focusing typically on the funds’ balanced and growth strategies.
“Measuring illiquidity is challenging, and while ‘unlisted’ does not equal ‘illiquid’, unfortunately the liquidity ladders of super funds are not made available,” Morningstar said. “That is, the assumed proportion of a fund that could be liquidated in one week, four weeks, three months, one year and so in is not disclosed.
“So, in the absence of disclosure, ‘unlisted’ will crudely be used as a proxy for ‘illiquid’.”
The system can handle itself
Super funds have faced liquidity stress before, such as during the Global Financial Crisis, and more recently during the Early Release Scheme (ERS) introduced by the Morrison government during the Covid-19 pandemic.
To meet the liquidity demand from members’ investment option switching, margin calls on foreign currency hedge and ERS, a Reserve Bank of Australia (RBA) analysis later found that super funds’ “aggregate cash balances increased by $51 billion over just the March quarter 2020”.
“To fund the move into cash, super funds were sellers of bonds, foreign equities and equity units in investment funds.”
The RBA said that even after this event, most funds still had at least 40 per cent of their portfolio allocated to very liquid assets and a further one-third to moderately liquid assets – those that can be sold in between three and 30 days.
But more recently, the RBA again called on super funds to strengthen their liquidity management in its annual financial stability review. This is to avoid the occurrence of synchronised asset sales in some domestic markets to raise cash, including to deal with policy changes such as the ERS or capital calls for private assets.
“Over time, a reduction in the flow of net contributions into the sector, and the eventual transition to outright cash outflows (as more and more members enter the decumulation phase of retirement), will also present new challenges for liquidity management,” the RBA said.
“However, these developments will be gradual and largely predictable.
“The management of liquidity risk will require ongoing vigilance, including in respect to margin calls on foreign exchange hedges.”
