Fund manager thinking is flawed, says Perpetual
The failure of the investment industry to deliver what investors needed over the last decade is down to a focus on stock selection at the expense of asset allocation, according to Perpetual.
Perpetual group executive for income and multi sector, Richard Brandweiner, said that asset allocation is about twice as important as stock selection when it comes to investment outcomes.
However, the typical superannuation fund or multi-manager has only one person or group devoted to asset allocation, and 40, 50 or even 80 individual managers looking at stock selection.
With returns of CPI+ 4 per cent easy to achieve in the 1990s, fund managers lost sight of asset allocation as "an important driver of returns", Brandweiner said.
"We've got it the wrong way around," he said.
Another problem with the industry is that incentives and objectives are not properly aligned, Brandweiner said.
"An individual fund manager - who is so important for the outcome for a member at the end of the day - has a different objective to the member. Individual super members need a real return, they need to grow their wealth and have a secure income in retirement," he said.
But an individual fund manager just has to beat the benchmark - and that informs thinking and leads to a flawed structure, he said.
Risk concentration is another big problem with the investment industry, Brandweiner said.
"A typical default fund has 95 per cent of its risk coming out of equities, 55 per cent of that coming from Australian equities. The top five contributors to risk in the ASX200 make up almost 42 per cent of the equity market volatility in a typical balanced fund.
"That means that almost a quarter of the risk in a balanced diversified portfolio comes from two stocks: BHP and the four banks (which is effectively one stock, because they're totally correlated)," Brandweiner said.
Finally, peer risk is an issue when it comes to asset allocation. Funds have a tendency to look around the industry and adopt similar settings, Brandweiner said - with the typical 70/30 equities/bond split being a good example.
"If you look at most asset allocations they're very similar. In fact I know of organisations that actually set their strategic asset allocations based on an average of everybody else. This is what invariably leads to sub-optimal outcomes," Brandweiner said.
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