Speaking at the recent NAB Super Evolution conference in Melbourne, Fahy said the sector has come under increasing scrutiny in the past couple of years, from the Financial Services Royal Commission, the Productivity Commission and the planned review of retirement income and superannuation promised by the federal government.

All of this has resulted in an increased focus on how funds are preforming. While there is debate around how returns should be measured and compared, Fahy says there is broad agreement that underperforming funds will disappear. “From a regulatory point of view and a government point of view the agenda seems to be that we need to have fewer, bigger, better funds,” he said, adding that bigger doesn’t always mean better.

Many of the nation’s 38 profit for member funds are already in merger talks and in five years’ time it’s possible that the top six or eight industry funds will each be managing A$250 billion or more, he said. Likewise, the retail sector is also being reshaped as the funds have separated from their bank owners.

The increased focus on explicit reporting of returns and fees and this could create a race to the bottom on fees and costs and potential distortions in asset choice, because the exposure of fees for specific asset classes could make some seem unattractive, Fahy said.

More focus on member outcomes from regulators

Fahy noted the recent Graeme Samuel-led review of the Australian Prudential Regulation Authority suggested the regulator focus not just on systemic risk but also on member outcomes. The ASFA head questioned how this might affect funds’ investment decisions, such as whether or not to seek better returns by investing in alternative assets in developing economies.

“Long-term retirement outcomes for Australians could end up being impaired because the pendulum on regulation has swung from being about prudential risk and fund solvency, to second guessing of member outcomes in retirement,” he said.

“A lot of trustees will feel that this is unwarranted intrusion from regulators where we might end up missing out on the next wave of economic growth.”

There is also a risk that regulators push trustees to become passive managers of funds, which would make for more stability but also for lower returns.

Funds are internalising more of their investment capability and expertise, which is driving an increased level of sophistication and “a more intimate relationship” in terms of managing currency risk and how cash is managed.

“The relationships with banks I think is going to become much more intimate,” he said.

“Promiscuous behaviour in a market where you’re only concerned with fees is going to cause problems from an investment governance point of view. I think trustees are going to be far more comfortable if they believe that we’re in relationships where we’re all looking at the long-term outcomes.”

The importance of 12% contributions

The role of regulators will be especially important when the next economic crisis hits and liquidity dries up, particularly as superannuation becomes more systemically important to the financial system.

Fahy highlighted three elements which he said were central for a well-funded retirement system: compulsion, because most people wouldn’t contribute unless they had to; universality, so that all are included; and finally, and most importantly, contributions of 12% of a worker’s wage.

When the superannuation system was first established in the 1980s it was envisaged that contributions would have climbed to 12% a decade ago, but that has not yet happened and as a result the average superannuation is about A$100,000 lower than it would have been, said Fahy, who is a previous managing consulting partner at KPMG and former CEO of the Financial Services Institute of Australasia (FINSIA).

If 12% is achieved, the superannuation system will achieve its target of getting to 50% of retirees self-funded by 2050 and the cost of the aged pension will stay at around 2.7% of GDP, compared with 11% in France currently and 16% in Greece, he told the conference.

If we spread the current $2.8 Trillion of FUM across the 11 to 12 million workers that amounts to an average in the system of about a quarter of a million dollars for every worker.

Fahy finished with his vision of what he would like the superannuation sector to achieve over the next five years.

“I think we want to have managed currency, sovereign risk and internationalisation risk by having good relationships with banks that can help with funding, help with how we deploy capital, and how we structure that,” he said.

“If we do that, we will have a pool of patient, long-term capital that can drive really smart deployment into the next wave of growth internationally.”

Read a summary of the findings from the NAB Superannuation FX Hedging Survey 2019