Having your cake and eating it too
This article appeared in the October 2014 ASX Investor Update email newsletter. To subscribe to this newsletter please register with the MyASX section or visit the About MyASX page for past editions and more details.
You can avoid the admin by being in a Managed Fund but you can still get to pick the stocks.
By Nerida Cole, Dixon Advisory
There have been some great innovations in superannuation products over the past few years, and improved administration, online access and cost-effectiveness are now available across a range of providers. Of particular interest to ASX investors is the direct investment option offered by a number of funds.
Investment-savvy members keen to make their own decisions can choose direct investment in the top 200 or 300 companies listed on ASX, as well as have access to term deposits, Listed Investment Companies (LICs) and Exchange Traded Funds (ETFs) to help grow their super money.
It is not only technological innovation that is responsible for these enhancements. Since the introduction of MySuper - which requires employers to contribute to a super fund offering a MySuper-compliant investment option if an employee has not selected their own fund - much advancement has been seen across the super landscape.
To qualify as a MySuper-designated product, the option typically must be low cost and have a minimum level of default insurance cover. This has led many of the retail superannuation providers, such as ING and BT, to add low-cost super products to their offerings.
On the other hand, industry funds, which were more known for offering a low-cost, low-frills option, have added better reporting, administration and more investment choice.
Both groups are trying to hold onto their investment-savvy members, who are often attracted to setting up a self-managed superannuation fund (SMSF), by offering direct share investment options. While direct investment has been easily accessible and cost-effective for personal investors through online brokers, superannuation investors had previously been left behind.
This new segment of the super fund market is worth considering, particularly for people who are experienced with shares but yet to accumulate sufficient super for an SMSF.
How a direct investment option works
Superannuation funds offering direct investments typically allow members to access an approved list of investments, which vary between providers but are generally confined to companies listed within the ASX 200 or ASX 300, by market capitalisation. Many funds also provide access to direct term deposits of varying maturity and low-cost diversified investment vehicles such as ETFs and LICs.
LICs generally provide higher fully franked income and lower management expense ratios than ETFs and unitised investment options in public offer funds, while also allowing access to diversified, quality long-term investment vehicles that do not trade their portfolios on a regular basis. This can assist in minimising capital gains tax bills, assisting managers to outperform while also being well aligned to the time horizon of many superannuation investors.
Australian Super's Member Direct Investment Option and ING Direct Living Super are leading the way with their direct investment offerings for members who meet minimum balance requirements, using a portion of their superannuation portfolio. The options available generally include ASX-listed shares, term deposits, LICs and ETFs.
There are some restrictions imposed by the providers as to how a direct investment option can be used. Investments are generally limited to those on the fund's approved product list and are subject to maximum investment level. For example, Australian Super Member Direct and ING Direct Living Super investors may only invest up to 20 per cent of their total super balance in each share, or in each ETF or LIC offered.
While helping to avoid concentration risk in one company, this may be a limiting factor where a diversified option tracking an index such as the MSCI Australia 200 or Emerging Markets Index, or a low-cost diversified LIC, is the member's preference.
Who direct investment options are best suited to
While these innovative new direct investment features may assist in providing greater investment flexibility, choice and greater transparency to many superannuation investors, it is important to be able to make the commitment to actively research and manage your own superannuation portfolio. Otherwise, relying on the professionally managed pre-mixed investment options inside the fund may be the more prudent way forward.
Experienced investors who have the capability, desire and time to manage their own investments may benefit from these direct investment options. This is particularly so where equity investments selected inside super are structured to complement investments held outside super, a strategy long employed by SMSF trustees.
This ability to select the specific preferred equities or LICs may allow well-researched investors to obtain better performance and risk management from their super because of the transparency and control provided from knowing exactly where they are invested and having the control to sell or buy.
Younger investors are often locked out of building a share portfolio, as the majority of their cash flow is committed towards mortgage payments and living expenses. Yet building knowledge of and confidence in, investment markets pays off over the longer term, particularly when additional funds become available for longer-term wealth accumulation strategies.
These younger members can follow a careful strategy of building their knowledge through research and education - the ASX web-based Education Centre is a great resource. That accumulated knowledge can be applied through the direct member options, but with a cautious approach.
However, for account balances of less than $50,000 it is likely to be difficult to work within the investment restrictions associated with direct investment options to achieve appropriate diversification in a cost-effective way. Transaction costs associated with purchasing smaller parcels of direct shares can quickly add to the total cost of managing your account, therefore smaller-balance members should be prudent to ensure they are appropriately diversified and minimising their overall costs.
Are there benefits for conservative investors?
Direct investment options tend to cater for the more growth-oriented sector of the market as generally members with longer-term investment horizons are more comfortable with the volatility associated with investing in shares.
Conservative investors in the pre-retirement stage generally have a lower capacity to withstand volatility because of the greater effect a capital loss has on their savings. Increasing the exposure to defensive assets provides more stability, as well as building up the all-important income-producing side of the portfolio for retirement.
Although direct investment options do allow some access to term deposits, the range is very limited and other listed defensive assets such as preference shares are typically not available.
Members approaching retirement may need to overlay their longer-term financial strategies and prioritise a provider with proven experience in the retirement pension phase. Just before retirement, member account balances are likely to be at their largest, meaning the additional flexibilities offered by an SMSF become more cost-effective because of the flat fee structure.
SMSFs allow access to all types of cash and term deposits, which are covered by the government guarantee backing up to $250,000 per institution, in addition to allowing access to higher-yielding hybrid securities to assist in boosting yield in the portfolio.
Although not for everyone, these new direct investment options offer an opportunity for superannuation members who have particular expertise, or strong interest, in the sharemarket but are yet to accumulate a balance sufficient to justify an SMSF.
About the author
Nerida Cole is Managing Director, Financial Advisory, Dixon Advisory.
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