Risk vs regulation

When it comes to superannuation, the law of common sense often does not suffice, Patrick Jackson writes.

Since the implementation of the Australian Prudential Regulation Authority’s (APRA) new standards, life has become very different for superannuation trustees. 

We now accept that risk is a key part of the management of all businesses. Initially many complained about this new focus on risk, thinking surely compliance with the law was sufficient. They bemoaned how a business could be successful if half everyone’s time is spent complying with law and the other half  preparing for events that have never happened, probably never will happen and if they do happen could be dealt with at the time.  Making it even tougher was the need to consider potential events in the broader marketplace – even if those events have never occurred before.

My thoughts were always that all businesses have an inbuilt mechanism for dealing with risk; it is called common sense. To date it has served everyone very well from the local greengrocer to the boards of large organisations, has it not?

Hmm, well not really. Certainly not when it comes to looking after other people’s money – the business of superannuation is not like a normal business focused mainly on profits. I won’t dwell on this, as we all know that detailing the corporate collapses and loss of retiree funds in the last two decades would not make for pretty reading.

“Risk” to many is synonymous with taking bets. As Mark Twain once said: “Why not go out on a limb? That’s where the fruit is.”

Today we are not simply expected to stress-test the weight-bearing capacity of the limb – even though that might be a common-sense approach – we must determine if there are any other risks and be diligent about documenting them.

Ultimately risk is more about meeting objectives, or more specifically managing risk to minimise the uncertainty around achieving your objectives – I want the fruit, can the branch handle my weight (don’t answer that).

Objectives need to be articulated in a business plan, so implementing a risk management framework is contingent upon you actually having a strategic, written business plan. Complying with the Risk Prudential Standard has flow on effects which can only be healthy for the business. The extent of integration of a superannuation business plan will depend on the now ingrained phrase “size, business mix and complexity of the business”. Most plans already have objectives relating to members’ benefits, the size and growth designs of the fund and the range of services.

So why is there all this focus on risk? Well since the introduction of compulsory superannuation in its various guises, and specifically accumulation funds, the Federal Government feels entitled to ensure that all the money it is making employers put aside for employees is well-managed.  Employers are funding the majority of employees’ retirement benefits to take pressure off the social security system – so why would you then allow disengaged members to decide how and where their funds should be invested? As so many Australians are disengaged, Superannuation Trustees have a big role to play in the future retirement benefits of individual Australians. This in turn underpins the importance of risk management.

Trustees need to plan for eventualities as part of their ongoing duties. The implementation of the Operational Risk Reserve forces Trustees to assess their risks, which in turn ensures that risks to members’ benefits are identified and treated where necessary. The concept of the risk appetite is crucial in managing risks to the businesses and to member’s benefits – you actually need to be able to spell-out what the appetite for risk is, and then use it as the basis for all your activities.

It seems to me that all the Prudential Standards are built on a foundation of risk. It is a regulatory framework that forces businesses to think about the future, plan for growth, manage the upside and downside risks, set aside funds to protect members’ benefits, ensure you have the right people doing the right jobs with the right tools – even I have a hard time complaining about that. 

So while you may sit and ponder the value in expending energy identifying, analysing and documenting risks, I think that the message that you can no longer rely on common-sense alone has been broadcast loud and clear. 

Patrick Jackson is head of platform services at Fiducian Portfolio Services.