The $5 trillion super industry

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This week’s Trialogue comes to you from the ASFA conference in Brisbane, the annual gathering of the superannuation industry. Tria is speaking at ASFA on the topic of a $5 trillion superannuation industry; ie the future shape of super.

As of June 2011, there was around $1.3 trillion in Australian super funds, so there is a way to go yet. Accepting all the perils of long term forecasting, the industry probably will reach $5 trillion in the second half of the 2020’s.

But as the chart above suggests, there is a wide range of possible outcomes. In particular, the industry’s size is very sensitive to net investment returns. Our projection assumes 7.4% pa, which prior to the financial crisis didn’t seem terribly ambitious. But a couple of percentage points make a big difference. If markets recover and returns are 9.3% pa, then the industry will be $7 trillion and still growing fast. On the other hand, if conditions continue to be poor, and returns are only 4.6%, industry size will expand only to $3 trillion, and start topping out.

And there are lots of other factors which can have a significant impact. Government policy and regulatory reviews of super, for example. Other forces include immigration, workforce participation, and the savings rate. Australia has a history of producing surprises on all of these dimensions. Who would have thought Australians would ever have a national savings rate of over 10%?

So the outcome will most likely be somewhere in this funnel.

Amidst the guesswork though, one thing is near certain, which the lower curve hints at. That near certainty is the steady erosion of the industry’s net cashflows, despite compulsory super. The prospective increase in contributions from 9% to 12% will only postpone the inevitable move into net outflow. The industry will still grow, but it will be largely dependent on investment returns to do so.

This scenario won’t play out until next decade, but the pinch of reduced cashflows will be felt well before the system goes negative (some funds are there already). The sheer size of the system and the weight of payments to large numbers of retired members will change the face of super, presenting major challenges to funds across marketing and segmentation, retirement income products, and the provision of financial advice.

Investment teams will also face new challenges. Today many have huge inflows and small outflows, with the challenge being to invest the cash fast enough, and deciding how much can be placed in illiquid assets. Tomorrow the position will be reversed and funds will need lots of liquid and yielding assets to meet the retirement income needs of members.

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