SMSFs: what's the magic number?
New research has found a number of variables contribute to self-managed super fund outperformance.
Moreover, when the size of the fund reaches $550,000 it is able to realise a number of economies of scale that help to reduce the cost of the fund and at the same time maintain its performance.
Key findings indicate the larger the fund, the more diversified it is and the lower the fees. The fund’s longevity also contributes to performance: the older the fund, the better it performs.
These were the main findings of the recent research study, When size matters: a closer look at SMSF performance
Researchers at the SMSF Centre of Excellence authored the paper. The centre is a collaboration between SuperConcepts and The University of Adelaide’s International Centre for Financial Services
The findings are drawn from research into 20,121 funds, with an average number of two trustees. The research found 55 per cent of SMSF trustees are male, the average annual fund expense is $8,919 and funds were on average 10 years old.
Interestingly, the report notes, the average asset value for SMSFs is $845,000. The lowest average asset value ($722,214) was realised in the 2009/2010 fiscal year, with the highest average asset value ($1,045,938) in the 2014/2015 fiscal year. This indicates asset values have substantially recovered since the financial crisis of 2007/2008, when asset values declined substantially across the board.
The researchers found when an SMSF’s assets are valued at more than $550,000 it is able to achieve an expense ratio of below 2%. At the same time, diversification and performance reaches the same level as the largest funds.
However, as the researchers note, “below this threshold, performance, diversification and expenses begin to deteriorate.”
Funds with assets under management of below $200,000 were found to suffer most from having a limited amount of assets. SMSFs whose funds were below this amount experienced significant underperformance compared to larger funds. Additionally, these smaller funds were more expensive to run, less diversified and had a higher expense ratio.
Liam Shorte, director, Verante Financial Planning says there are a number of reasons why bigger funds outperform their smaller counterparts.
“Many small SMSFs have most of their holdings in cash, term deposits and the top 20 Australian stocks. So they lack the growth part of a diversified portfolio, especially in periods where the big banks, retailers and resource giants struggle for growth,” says Shorte.
He says the bias among some SMSF trustees of smaller funds to look after their own investments and shun third party advice can also contribute to their relative underperformance compared to larger funds.
“They can lack faith in investments, managers and third party advice and are often fully invested in cash because they prefer not to take any risk, or freeze once it comes to making investment decisions,” he explains.
Trustees of smaller funds have a number of options available to help improve the performance of their fund. Diversification is the first element to tackle. Thanks to the advent of new investment products such as exchange-traded funds (ETFs) and Active ETFs it’s now much easier to achieve a truly diversified fund across a broad range of asset classes, even in a smaller fund.
Active ETFs can give SMSF trustees easy-to-access exposure to asset classes they may once have found hard to find. This includes overseas equities markets, commercial property and infrastructure, and even more exotic assets such as currencies and commodities.
It’s also important for trustees of smaller funds to ensure the fund meets the sole purpose test. That is, that the assets help fund members meet their retirement goals.
Funds that are overly biased towards cash may not be able to demonstrate this, given the return from cash in a low-interest rate environment may not be enough to support members’ retirement income needs.
While this may not be as much of a problem for high-net worth investors who prefer to use their SMSF as a vehicle for holding cash, it could be an issue for members who are relying on the funds in their SMSF to support their post-retirement income needs.
Trustees of funds with assets below $550,000 have an opportunity to consider how to increase the value of their fund to ensure the cost to run it outweighs its expenses. SMSF members with assets below $200,000 have an opportunity to review their fund to ensure it meets their long-term retirement needs.
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