The AMP is a big player in the sale of superannuation products, but it does know what happens in up and down years.
It’s been in the game for years and has seen the super game in all markets.
Chief Strategist, Dr Shane Oliver has some sober advice for those who have seen the value of the super holdings hurt by the downturn in financial markets: the first serious decline for five years.
The March quarter was the worst quarter on the Australian share market since the December quarter 1987.
After a rough five months most superannuation funds are now recording negative returns on a 12 month ended basis and virtually all are in negative territory so far this financial year.
This is naturally very disconcerting, particularly for those near to – or in – retirement for whom it’s not so easy to top up their funds and take advantage of lower share prices.
It’s made worse by all the confusing commentary floating around. I think that the global economic downturn is unlikely to be deep and long and that shares have seen the bulk of the damage and may have even seen the bottom and that either way they will be back onto a sustainable rising trend by later this year.
But there are many out there who see a bear market stretching over several years on the back of the fall-out from the US sub-prime crisis.
In times of uncertainty like the present it’s useful to put prognosticating aside and put things into an historical perspective.
Negative returns are not that unusual
The first thing to note is that periodic negative returns from a diversified mix of assets are not that unusual.
What has been unusual has been the relative stability of returns over the period from March 2003 to mid 2007. The historical record indicates that traditional diversified portfolios of assets (cash, bonds, property and equities) have negative returns every six years or so.
The next chart shows rolling annual returns for balanced and growth funds from the Mercer Investment Consulting survey since 1982.
Since balanced funds only came into existence thirty years ago, the chart also shows a simulated balanced fund. This is constructed on the basis that an investor invests 70 per cent in Australian equities and 25 per cent in Australian bonds and five per cent in cash (i.e., bank bills). The chart excludes exposure to global assets and property because we do not have a long term monthly time series for aggregated global equities, bonds and property.
In any case, investment in international assets was limited prior to the 1980s.
(take the first graph on diversified returns)
The simulated series tracks the Median Balanced Fund return pretty well suggesting that it’s a good proxy.
It’s clear from the chart that a period of negative returns every few years is a normal cyclical phenomenon.
Negative returns occurred in 1930-31 (Great Depression), 1938-39 (recession), 1941-42 (World War II), 1949, 1952 (recession), 1956, 1960-61 (recession), 1964-65 (recession), 1970-71, 1973-74 (oil crisis, stagflation, Watergate, etc), 1981-82 (recession), 1987-88 (share market crash), 1990 (recession), 1994 (bond crash), 2001- 03 (tech wreck, terrorist attacks).
Equity market falls were a key factor in most of these episodes as were recessions.
Unfortunately, with shares we have to take the bad (high volatility and periodic negative returns) with the good (higher long term returns than most asset classes).
The chart below indicates that Australian shares have had numerous severe setbacks over the last 108 years. In the midst of many of these it seemed like the “worst ever” crisis, but the market has always recovered to resume its rising trend which equates to capital growth of 6.1% pa or a total return of 12.4% pa when dividends are added in.
(add the second graph on Australian shares)
Mean reversion
The poor returns of the last few months may be seen as payback after the much stronger than expected double digit returns of the 2003 to 2007 period. The following table provides a comparison of “balanced fund” returns over the last few years with those that would have been implied by asset class returns over the last century or so.
(add the table on super returns)
The 2003 to 2007 period and indeed the last 25 years have seen returns run way above what appears to be sustainable on the basis of returns over the last century or so.
The key drivers have been the shift from high inflation to low inflation which boosted equity and bond returns in the 1980s and 1990s; the “chase for yield” over the last five years which pushed down yields on other assets; and unsustainably strong profit growth.
All of these drivers have probably now run their course, suggesting lower returns ahead in the absence of a new asset bubble.
While most fund managers, me included, didn’t see a violent and sudden bear market, most did see a return to more sustainable and more modest returns at some point, after the strong gains of the 2003 to 2007 period.
The trick for investors is to hold the course
After suffering a loss, the temptation is to switch to a more conservative strategy.
While this might make getting a good night’s sleep easier, over the long term it invariably results in lower returns. The following chart shows the cumulative return to two portfolios since July 1928:
• a fixed balanced mix of 70 pe
