by Robert Sarafov – Director of APC

In our recent Annual Client Briefing at the NGV, we mentioned in our presentation that the Royal Commission highlighted many examples of reprehensible behaviour on the part of the banks and AMP.  However their review of Industry Super funds had much to be desired and focused on somewhat trivial issues such as HostPlus’ use of the Australian Tennis Open to reward staff.

A far more concerning issue relates to the arbitrary definition applied by some super fund asset managers of defensive assets in their portfolios, which allows the inaccurate description of a ‘high growth’ portfolio as a ‘balanced fund’.

This inaccurate description, which is perpetuated by ratings agencies and the media, then provides a level of legitimacy to the portfolio performance which investors accept as gospel.

It is a situation which is being allowed to continue by ASIC, APRA and the ACCC and is completely unacceptable and should have been reviewed by The Royal Commission, but wasn’t.


The information contained in this article has been drawn from an article written by Chris Brycki in July of this year.  

Defensive assets

ASIC defines defensive assets as cash or government bonds. Cash is defensive because when the market falls it holds its value.  High grade bonds can do one better and rise when share markets fall. History backs this up too; in each of the 6 times Australian shares had a down year in the past 20, bonds rose to cushion the impact.  If this is ASIC’s definition, which APC would fully support and agree with, why is it that this definition is not mandated to be adhered to by super fund asset managers?

Can other assets be defensive?

This very much depends on the opinion of the fund manager and there is strong history to demonstrate why their opinions might not end up as fact.

High income stream and low growth assets

Just because an asset delivers a big income stream does not make it inherently defensive. Take Telstra. Most of Telstra’s returns come from regular fully franked dividend income but its share price has dropped 60% since 2015.

Creative definitions of defensive assets

In recent times many super funds have invented their own definition of a defensive asset which has helped to push them up the ratings. Let’s look at how some funds do this in practice.  The following Industry Super default ‘balanced fund’ claims a 24% allocation to defensive assets.

The fund’s website explains that in addition to cash and fixed income “some asset classes, such as infrastructure, property and alternatives may have growth and defensive characteristics”.

Their self-defined defensive assets include infrastructure, credit, property and alternatives. These make up 22% of the 24% portfolio allocation to ‘defensive assets’. Government bonds make up just 2% and there is zero cash!





















This enables the fund manager to publish a return that is included in the ‘Balanced’ table of returns however the portfolio is in fact 98% growth!   As you could imagine, when compared to true Balanced Funds, it’s performance looks very good…however this is a fabrication.

Many of the top funds counted some other assets as defensive to make the Balanced fund table.

The Productivity Commission asked many super funds about returns for individual assets. Only 5 of 208 funds were prepared to disclose them!

Unfortunately and some would say amazingly, super funds aren’t required to disclose how they classify their investments on their website or to anyone. Not to members, nor the Australian Prudential Regulatory Authority (APRA) or ASIC! They also aren’t required to share how each asset has performed or even what it is. This allows fund managers to play the ratings game without anyone holding them to account.

By all means fund managers should be free to invest in illiquid unlisted infrastructure, alternatives and property assets.  There are very real diversification benefits in doing so.  Just don’t call them defensive assets!

Compare this behaviour to APC’s transparent approach where we publish each individual asset within the Defensive and Growth components of our portfolios AND their individual performance.  This information is provided to our clients every six months in your Regular Planning Meetings.

How fund managers sell the ‘success’ of their balanced default fund

An Industry Super fund chief executive when asked about their ‘balanced’ fund’s performance cited active management!

“Over the past three years our balanced option did 10.16 per cent, while the index balanced option did 7.29 per cent, so that’s almost a three percentage point differential.

The [active] balanced option has outperformed across every time horizon” he says. It’s absurd to compare an accurate indexed balanced fund option which has an allocation of 25% to cash and bonds to a pseudo default balanced option with an allocation of just 2%.

How ratings agencies support the misleading self-reporting

The ratings agencies don’t properly query the allocations reported by the funds. This provides no check as to the real risk of the self-reported defensive assets.

Valuation of unlisted assets

Many infrastructure and property assets are held in unlisted vehicles which raises 3 concerns:

  • The value of the investment is quite often based on the opinion of the fund manager and there is no way of knowing whether that value is credible given that there is no open market for the asset.  This happened a lot in the aftermath of the GFC
  • The financial structure may see a return of capital reported as an income distribution.
  • The investment is very illiquid and a sale is often extremely constrained by agreements with co-investors, including first right of refusal and so-called ‘tag-and-drag’ conditions. One critical characteristic of a defensive asset is to be able to sell it in a deep and open market.

During the Financial Crisis some super funds stopped members from transferring money out because they were unable to sell illiquid unlisted assets.   This can be done for good reasons such as protecting investor capital by not allowing ‘fire sale’ prices and therefore large losses if a manager is a forced seller in a falling market.

One industry super fund lost $1.6 billion due to poor hedging of unlisted assets. It lost its spot as one of the best performing funds in 2008 to become the second worst according to Super Ratings.


The fact that the Royal Commission did not even attempt to review this situation at all is quite frankly unbelievable.  It represents a manifest misunderstanding of risk, as it applies to member investments.  For this reason alone it should have been reviewed and the issue addressed.

However, further to this most important point, there are questions to be answered in relation to the cosy relationships between ratings agencies and the funds that they rate.  The inherent conflict of interest that exists here due to the fact that the funds themselves pay the ratings agencies for their services is a structural fault of the system and does not lead to reviews of funds without ‘fear nor favour’.

We should not forget that it was the inaccurate ‘head in the sand’ approach of ratings agencies’ reviews of Collateral Debt Obligations (CDOs) that lead to the GFC.  You would think that given this recent history, the Royal Commission would have allocated appropriate time to understanding and addressing this issue.

The Royal Commission has performed an important community service in highlighting shoddy practices in the financial services industry. However it has passed up the opportunity to shine a light on this particular systemic conflict of interest in the financial services sector, which is a real shame.

The lack of accuracy of portfolio information and how Growth assets are defined as Defensive  impacts on the level of risk taken by unsuspecting super fund members.

This issue is gaining some traction in the media, so stay tuned.