ABC The Drum - A super scandal 10/08/10 9:11 AM

A super scandal
By Stephen Long

Updated Thu Aug 5, 2010 5:08pm AEST

Paul Keating called it his

greatest reform for workers -
a compulsory
superannuation system to
ensure that Australians had
financial security and
dignity in retirement.

But over the past dozen years

or so the returns from the
superannuation system have
been woeful - shockingly low,
Is superannuation the the best way to provide
and far lower than has been
for workers in their retirement? (Thinkstock:
generally understood.
Pixland)
The Australian Prudential
Regulation Authority keeps
statistics going back as far as 1997 on total assets and net contributions in the
superannuation system.

APRA provides the aggregate figures but it doesn't spell out what the numbers
imply.

From those statistics, though, it's possible to calculate how much of the growth in

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the size of the total retirement savings bucket comes from contributions - workers'
money going in - and how much of it comes from investment returns after costs:
the money making money.

We've done the calculation; the net annual compound return is a mere 3 per cent.
That's barely ahead of the inflation rate over that time, which averaged 2.8 per
cent.

Over the last decade the system-wide returns were below inflation, which
averaged 3.2 per cent.

Think about it. Australians have, in effect, had a proportion of their wages
compulsorily acquired and put into a retirement savings system that has seen their
money stagnate over a dozen years and go backwards over the past 10.

No growth in real terms (adjusted for inflation).

It raises a fundamental question: is this the best way to provide for workers in their
retirement?

You would hope that, given workers' retirement savings are being exposed to the
potential for losses on volatile asset markets, the superannuation system would be
delivering a return to justify the risk.

Yet on any measure, the superannuation system is delivering a negative return for
risk.

The system-wide returns are less than the return on cash in the bank and little
more than half the average rate of return on the long-term government bond rate
over that time.

Let's put it another way. The Commonwealth has created a giant pool of money -
$1.2 trillion now and growing every year - that has spawned a large and largely
well-remunerated financial services industry.

Yet that industry, which has taken tens of billions of dollars in fees out of workers'
retirement savings, has in real terms delivered no overall return on that money
during the period in question.
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If the aim of compulsory super was to build the financial services industry in
Australia by providing it with a guaranteed and growing stream of funds, the
system has delivered in bucket loads.

If the aim was to ensure that all workers would have the income to enjoy a
dignified retirement, it is failing miserably.

The public policy implications are profound. If the returns continue at this level, it is
highly unlikely that the superannuation system will generate anywhere near
enough for workers to live on in retirement.

Australians will, in effect, end up paying twice: the first time, through a lucrative
stream of fees to the individuals and institutions that manage Australians'
retirement savings; the second time, through their taxes, to provide aged pensions
to the citizens failed by the superannuation system.

The superannuation industry and the consultants and analysts who make money
off its coat-tails will complain, no doubt, that the system-wide returns are not
representative.

They argue that the better measure is the return on the "balanced" funds where
most workers have their money invested.

Even here the returns are poor - a median return of about 4.5 per cent a year for
the major balanced funds over the past decade, according to the analysis from
credible agencies such as SuperRatings and Chant West that track fund
performance.

That's no better than cash and significantly worse than putting your money in Ten
Year Australian Treasury bonds which over that time delivered an average return
of 5.75 per cent.

The industry will complain that the period is biased towards low returns because it
encompasses a series of financial crises - beginning with the Asian financial crisis,
then the tech wreck, the accounting scandals at Enron and WorldCom, and
culminating in the GFC.

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That's true - but it tells a story in itself.

Over the past decade or so financial crises have become more frequent and more
disruptive than in the past - and they propagate more rapidly.

The Bank for International Settlements is among the institutions that have linked
this to globalisation and financial market liberalisation.

Increasing integration of global financial markets means shocks can quickly go

viral and spread, pandemic-like, across borders - and modern communication
technologies allow for almost instantaneous transmission of shocks.

Ask yourself - which is the more representative era?

The "great moderation", as head of the US Federal Reserve Ben Bernanke once
termed it, when benign inflation rates and soaring asset prices in the West led to
double digit returns on investment?

Or the Great Volatility, characterised by booms and busts in asset prices?

Volatile markets are not the only cause of the poor system-wide returns on
superannuation over the past decade or more.

There is also the poor system design which has produced a vast pool of lost
money - literally tens of millions of lost or inactive superannuation accounts holding
money left behind by workers when they changed jobs. The account balances are
being eaten away by ongoing fees.

Then there's the sizeable fee take from workers' retirement savings all the way
along the line.

Fees and commissions paid to financial planners have received the most attention
and opprobrium, with good reason.

There's been a massive and untenable conflict of interest in the profit-oriented

superannuation sector; salesmen, masquerading as objective "advisors", have
made a living from kickbacks and commissions from superannuation providers.

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But there's been far less focus on the pay of the people who make the big money -
the investment managers.

Typically, the investment managers get paid a percentage cut of the funds under
management - so the bigger the pot, the more they get, regardless of performance.

You can see why the industry was overjoyed at the Government's decision to
increase the superannuation guarantee from 9 per cent to 12 per cent.

It's money for nothing: it takes no more effort to buy a half a billion dollars worth of
BHP shares, say, than it does to buy half a million and, aside from a marginal cost
for brokerage, no more expense.

"The great thing about being an investment manager," said a member of this
fraternity over drinks, "It costs no more to invest $2 billion than it does to invest $1
billion but we get paid twice as much."

Nice work if you can get it.

So why don't the investment managers get paid a flat fee, with a bonus if they
achieve superior returns?

The bonus would, of course, need to be carefully crafted to avoid an inducement to

excessive risk-taking.

After our analysis was first aired, the head of the superannuation system review,
Jeremy Cooper was interviewed and his response was: that's standard practice
the world over, so how can Australia buck the trend?

He said that Australian superannuation funds lack the size and scale to demand a
better deal.

Yet, from the outset, the Cooper review rejected an option canvassed in a
research paper published by APRA in advance of the inquiry: establishing either
one or a small number of publicly-run, low-cost "default" option super funds.

This might have created funds with the size and scale to push-back against the
power of the financial services industry.

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If Parliament does implement its recommendations, the Cooper review will address
some of the problems that have driven down system-wide returns.

It proposes remedies to stop retirement savings falling into an abyss of lost

accounts and to stop lost accounts being eaten up by continuing fees.

It exposes terrible inefficiencies in the system - for example, superannuation still

being processed manually, through paper cheques sent in the mail - and
recommends reforms.

Cooper's "MySuper" option - endorsed by the Government but strenuously

opposed by the Opposition and by the profit-oriented super sector - holds out the
prospect of lower cost, simpler "default" options.

If it's adopted, and that's still a big if, it will go some way towards changing the
scandalous situation where workers can have their compulsory superannuation
placed by default in high-cost funds with poor returns because their boss has done
a deal with a financial services firm or a financial planner.

The Government maintains it will make a major difference to retirement savings for
most workers over the course of a lifetime.

Yet some experts are sceptical. Dr Mike Rafferty, an economist with the
Workplace Research Centre at the University of Sydney, inquired at an industry
briefing on the Cooper review whether default schemes could have financial
planning fees built-in.

The answer, he says, was yes. Could they build in fees for life insurance and
disability insurance? Yes, again.

"I can't see how it's going to make much difference or achieve anywhere near the
reductions in fees that the review suggests," he says.

Even so, the Cooper system is a major breakthrough in the public policy debate.

The findings of the Cooper review implicitly recognised that superannuation has
failed to deliver on the promise of the market-based system - that competition

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would drive down prices and costs and deliver the best outcomes for consumers.

It exposes the reality that, at least when it comes to superannuation, our financial
services regulation rests on a false edifice.

The regulations assume the world is populated by the species homo economis:
rational individuals who spend their time looking for ways to maximise their
interests.

The reality is that most people have neither the wherewithal nor the inclination to
navigate the maze of choice; neither the confidence nor the desire to make active
decisions about where the retirement income should best be invested.

They just want to know their money is safe and they're not being ripped off, which
is far from assured under the present system.

But while it proposes many worthwhile reforms, Cooper only goes so far. This was
not a "root and branch" review.

It took the existing superannuation system as the model and looked at ways to
tweak it or "clean it up", in the words of the Federal Minister, Chris Bowen.

There was no appetite for questioning what the former Macquarie Bank deputy
chairman Mark Johnson, architect of a plan to make Australia a regional financial
services hub, has called "the privatising of old age".

It canvassed more radical and far-reaching options for reform, but it is no surprise
it rejected them. Look at the make-up of the inquiry.

Aside from Jeremy Cooper and the Treasury official David Gruen, all of the
members of the advisory panel were, in one way or another, superannuation
industry insiders representing those with a vested interest in the existing system.

Why is Australia unique in the world in putting such a high proportion of workers'
retirement savings invested in equities (company shares)?

Why is it that 60 per cent of the OECD nations have defined benefit pension
schemes that provide a guaranteed retirement income, while Australia has a

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system that leaves workers bearing the risk?

The Government's response is that defined benefit schemes run the risk of being
hit by large unfunded liabilities in the corporate sector. It's a cogent critique.

Yet our system runs the risk of working people, despite years of contributions,
being left unfunded for their retirement.

The debate about how to provide decency and security in retirement isn't over; it
may be just beginning.

Stephen Long is the ABC's Economics Correspondent.

Tags: business-economics-and-finance, economic-trends, community-and-

society, government-and-politics, federal-government, superannuation, australia

First posted Thu Aug 5, 2010 4:05pm AEST

Comments (10)
Comments for this story are closed, but you can still have your say.

TJeff:

05 Aug 2010 4:50:57pm

Why don't you measure the years 2002 to 2007? When many funds were
earning 15%+ year on year?

Nice cherry picking of the data. The thing is that we already pay pensions for
people who don't have enough super. Then ignorant, angry people say "Yeah, I
hate super" in the comments because they've broken even after the biggest
financial crisis in 70 years.

People lost 90% in the great depresion.

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Vince:

05 Aug 2010 4:53:14pm

Paul Keating was a big picture man but unfortunately he didn't always look at
the right picture. Super for the average worker has been a dud it has made
financial planners very wealthy but added little to long term retirement income.
Retunes have been very poor and now a large amount of our funds are frozen
with no indication that we shall every get our hands on that money. My advice
to young folks is put as little as you can into supper and invest in property, high
value shares( top 50 only) and speak to your bank manager about setting up a
interest bearing account which at the moment are miles ahead of any super
returns - we were well and truly duped by the man in the Italian flannel suit.

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anzaan:

05 Aug 2010 4:58:21pm

excellent article!
Thanks for sharing

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Sou:

05 Aug 2010 5:15:23pm

The only ones who made money from my super contributions are the fund
holders. After 10 years, there is no more left but my initial contribution.
Meanwhile, I've had to pay interest on loans and a mortgage. Thankfully I also
set up a SMSF which has done okay.

I prefer to control what I earn, but the government thinks it's better for us to
donate to corporate Australia.

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Best to treat super the same way as taxation. Lost money! And contribute as
little as possible, unless it's to your own SMSF.

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Baz:

05 Aug 2010 5:18:55pm

Little wonder people invest in real estate.

Superannuation is the vehicle, the problem has been that most of it goes into
the share market or bonds that have taken a hit since the GFC.

It's an unfortunate reality that rich individuals are offered the really good
investment opportunities, the rest only get a go once the increase in investment
value has peaked.

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Mike:

05 Aug 2010 5:28:33pm

Take this story with a grain of salt. It is an average accross the board. Some
retail master trusts have gone backwards due to high management fees and
commissions, but some industry super funds have done substantially better
than 3%. The net annual compound return on my super was about 9% for the
decade before the GFC. It took about a 12% hit in 2008-09 but I'm still way
ahead of the cash rate.

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shatah:

05 Aug 2010 5:30:06pm

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enjoyed the piece, sad to hear though another industry is captured by faceless
money men that most people wouldn't have heard off or elected for but control
legislation recommendations.

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Craig:

05 Aug 2010 5:34:45pm

Only bona fide psychics can beat the house. When the house only pays out to
the lucky few, playing all the numbers loses you more than you win. That's
super these days. Who else is sick and tired of people pretending they can see
what they can't? They use other people's money to lay their bets, and ask to be
paid for the effort! You seem to get a lot of godalmightiness in super, politics,
business, unions, and their lackeys.

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Wonderdog:

05 Aug 2010 6:24:27pm

Superannuation - old people making decisions about young people's money;

while taking a decent cut for themselves along the way. The goal of boosting
national savings is laudable, but as a wealth transfer mechanism, it has few
peers for effectively transferring wealth from the middle / working class to the
rich.

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Sweeney:

05 Aug 2010 6:35:41pm

Being forced to join super funds is a dud scheme. It is a little better now that

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there is choice. I lost a fortune on clowns like AMP and decided to form my own
fund. I have averaged around 8% net after tax over several years which is far
better than having screen jockeys chase each other around markets only to end
up losing the lot and then hit you with a heap of fees to add to the misery. In
hindsight, it would probably been better to keep taxes low and encourage
people to save themselves rather than end up with the shocking complicated
mess super is. Super has spawned the worst kind of thieves and con merchants
with people fleeced up and down. I know who has the most money, the guys in
the shiny glass skyscrapers you see around major CBDs. The mug punters pay
for their high bonuses, wages and cosy working (on non working) conditions.

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