Is the Australian superannuation system designed to fund your retirement or fund managers’ lifestyles?
It’s a trick question, of course. The correct answer is that it doesn’t matter what a government policy is designed to do. It always does the opposite anyway — a phenomenon that economists call the Cobra Effect.
As the story goes, the British Government in Delhi decided to get rid of cobras by offering a bounty for cobra skins. The result was a vast increase in the cobra breeding industry…
Even the British Government eventually figured out what was going on and closed the subsidy program. And so, the cobra breeders, no doubt caught up in a frenzy of animal rights environmentalism, freed their stock back into its natural habitat, causing a flood of cobras on the streets of Delhi.
Thus, the government program’s intention to reduce the number of cobras resulted in a cobra plague. And so it’ll be for the superannuation industry too, I’ve always said.
Now, I’d just like to mention that the sound of a hissing cobra once caused me to be so petrified that I couldn’t even manage to wet my pants.
That is probably how the superannuation industry is feeling right now too. You see, the super industry forgot that the Baby Boomer generation would eventually like its money back…but somebody at the regulator just reminded them.
‘Super funds slammed over failure to plan for Boomer retirement wave,’ reports The Australian Financial Review. This is despite the law requiring them to help members plan for their super withdrawals to fund retirement.
Yes, according to the regulators tasked with making sure the super industry follows the rules, the super industry is not following the rules.
You and I might think this requires the regulators to experience some form of accountability for not doing their job. But that’s just not how the Cobra Effect works. It’s always the man on the street who gets bitten on the bum by the consequences of government policies.
Now I’m sure it comes as a complete shock to people in the finance industry that people might want their money back at some point.
Then again, fund managers from Bernie Madoff to the UK’s superstar stock-picker Neil Woodford have always struggled with the concept. Not to mention banks, like those which failed in the US this year when depositors wanted their money back.
So, Australia’s superannuation industry probably thought their gravy train of compulsory savings they kept safely out of our reach would go on forever.
But, yes, people will eventually withdraw money from a retirement savings system…if they can.
The trouble is that, when it comes to super, this implies selling the assets in the fund…and that means fewer assets under management for the fundies…and that means fewer fees for fundies…
But it gets worse. The premise of the super system is that its many savers and investors will be able to find willing buyers for the assets they plan to sell to fund their retirement.
As the UK pension industry recently found out, that can be more difficult than the theoretical risk models suggested. According to the Bank of England, the UK pension industry was hours from collapse last year, before the central bank intervened by printing money to save the system…it got so bad the UK Government almost went bust. And a Prime Minister got booted over the kerfuffle.
The underlying issue was that the pension funds couldn’t find willing buyers for the government bonds they were trying to sell to raise cash. The Australian super gravy train itself might derail in much the same way as UK pension funds did, but in slow motion and for a different reason.
Given the shape of Australia’s population pyramid, finding enough willing buyers for all the assets which baby boomers plan to sell might just turn out to be problematic…
Remember how super came about in the first place and you’ll be able to spot the sleight of hand.
Faced with the demographic challenge of not having enough young taxpayers to fund retirements in the future, the government decided people should fund their own retirements. But this hasn’t changed the equation. Just as pensioners need young taxpayers to send them the cash via taxes, retirees need young investors willing to do the same thing via the financial markets.
Only, if there aren’t enough young taxpayers, there won’t be enough young investors either…
The super system is based on the greater fool theory — that retirees will be able to find someone to sell their assets to at a higher price. But there might not be enough such greater fools.
As baby boomers retire, super funds face rapidly rising sales of assets and withdrawals of money while inflows and purchases only slowly go up.
We’re facing the first real test of the super system today. The baby boomers now retiring are the first cohort of super contributors that’ll begin withdrawing a career’s worth of savings from financial markets.
That’s with the ASX200 miles behind its 2007 highs, adjusted for inflation. Are markets liquid enough to serve as a welfare mechanism, transferring wealth from compulsory investors to retirees?
I suspect Australian advertising companies’ favourite industry may be in trouble. (Yes, super is compulsory, but the industry still pays for every second ad on my TV, out of your investment pocket…)
Now I’m sure you have complete faith in the quality of Australia’s Government-mandated retirement savings industry. Being much smarter than the editors of The Daily Reckoning Australia, the fundies are aware of and on top of all these issues…right? I mean, they’re legally obliged to be, after all. And we all know that the financial industry follows the law…right?
Unfortunately, the regulators have discovered that most super funds had ‘not done any in-depth analysis of their members’ income needs in retirement, […] nor had they modelled how those may change over time.’
They don’t know what sort of outflows their fund faces in the future…
The Australian Financial Review continued with some clever analysis of the patently obvious:
‘This is despite funds, regulators and experts considering the mass retirement of baby boomers in coming years as a systemic risk to the superannuation system, with 3 million members becoming eligible to draw down from their accounts in the next 10 years.’
Oh, so it’s not just me calling it a systemic risk?
My favourite part of the article was the subheading, ‘No data, no plans’. This approach is understandable given the conclusions the funds might reach if they considered how future inflows and outflows from their assets under management might look. And what this implies for the valuations of the assets being sold.
This bit of the article is even more extraordinary than ‘no data, no plans’:
‘Too many retirees were also not spending their superannuation savings, the review also found, suggesting they were living at lower standards than they could afford.’
So perhaps the super fund managers were right all along. People won’t pull their money out of super for fear of reducing fund managers’ incomes. They’d prefer to live at lower living standards than upset their betters. Life can go on after all.
Does this remind you of super funds miss-selling insurance products too?
Of course, the super funds have already responded to the regulators’ latest criticisms. And they blamed the regulators who pointed out the shortcomings. You see, providing people with personal financial advice on their super comes with some rather onerous (read expensive) regulatory requirements.
With 5 million members, those costs could be…problematic for super funds. In other words, the funds are stuck in a catch-22. They can comply with super legislation or financial advice legislation, but not both. Not without incurring whopping costs.
By keeping people’s ability to withdraw money from their super on the down-low, the funds have just erred on the side of caution…for themselves, not their members…
If retirees demanded their money out in the ways that the super industry is supposed to encourage them to do, it’d be like the bank run on Silicon Valley Bank or the bond market crash in the UK. The system would have a heart attack as hissing cobras flood into financial markets.
Editor, The Daily Reckoning Australia Weekend