28/06/23

AUSTRALIA: Super funds embrace offshore investment, internal teams

As published on: financialstandard.com.au, Wednesday 28 June, 2023.

JPMorgan's 'The Future of Superannuation' report highlights how Australia's largest super funds are leveraging their scale to invest offshore and bolster their internal investment capabilities.

This strategic shift is particularly noticeable among funds with assets exceeding $100 billion. The report details how such entities are diversifying their investments across a range of global asset classes and establishing international offices to explore new opportunities.

Aware Super is one such fund that's been expanding its global footprint to stay competitive.

Aware Super deputy chief investment Damien Webb highlighted the constraints of Australia's relatively small capital pool in the JPMorgan report.

"The superannuation system totals $3.5 trillion, which is 150% of the Australian stock market. As a result, what we're finding across asset classes is the need for global diversification; with this demand driving our recent strategy to expand our global footprint offshore, starting with the opening of a London office in late 2023," he said.

Likewise, Cbus chief executive Kristian Fok drew attention to the narrow sectoral focus on the Australian sharemarket, which is dominated by finance and mining companies. He argued that foreign markets offer better exposure to sectors like healthcare and technology.

"As you get bigger, and because of the positive cash flows, funds are growing faster than the investment opportunities in Australia. Investing offshore also allows the fund to access investments that you can't easily access in Australia, whether it's biotech or other sectors," he said.

Nevertheless, JPMorgan's report clarified that while large funds heavily invested in local markets can quickly reach their holding limits for individual stocks, this doesn't spell an end to the home bias. The report acknowledged tax considerations, such as Australia's local franking credits scheme, mean that home bias is unlikely to disappear completely.

"You've got double taxation and have to reclaim withholding taxes," Fok said of offshore investment.

"But given the diversification benefits and being able to target areas where we don't have exposure, we tend to try and find solutions for that, although solutions in emerging markets are more complicated."

The report also suggested that many of the most promising unlisted asset investment opportunities lie beyond Australian markets. UniSuper head of private markets Sandra Lee spotlighted the renewable energy sector as a prime example, with significant support in the US.

Making strides in clean energy investments, the US took a giant leap forward with the introduction of the Inflation Reduction Act (IRA) last year. This legislation earmarked US $369 billion in government incentives, expressly designed to invigorate investments in renewable energy and electrification initiatives.

"Australia's obviously got some opportunities, but given our domestic challenges around policy direction, it's been a little bit more challenging to find high-quality renewable deals. I think we will see more opportunity offshore, for example, in the US, where renewable projects will be much more supported given the IRA," Lee said.

While these unlisted investments have attractive risk-return characteristics, they also tend to come with higher transaction costs and management fees. A rising number of funds are tackling this issue by building internal investment teams.

Internal investment teams

Aware Super plans to internally half of its rapidly expanding asset base, a move aimed at reducing fees and broadening its scope of potential investments.

"We've been pushing really hard to get our internalised strategies up and running, whether it's equities, real assets, or cash and credit. Thus far that's contributing meaningfully to boosting net returnsby bringing overall fees down and we continue to be on that journey," Webb said.

Internal investment teams bring multiple benefits, including a relatively fixed cost base compared to outsourced managers who charge percentage-based fees, as well as potentially greater control and fresh investment insights, the report said. However, there are also governance challenges to consider, like the need to preserve the organisation's original culture and ensuring that investment performance is on par with an external manager.

As such, not all funds are adopting the strategy of internalising or setting up offshore bases.

HESTA is keen on global investment opportunities but is adopting a "wait and see" approach before opening an international office.

HESTA chief operating officer Stephen Reilly said: "We're looking for the best returns and we're big enough now that we can look wherever they are. But living in a 'Zoom' world, I think that question of how much you can get done without putting your feet on a plane has a different answer now than what it did three years ago. There are still huge benefits being there, but the benefits are a bit more nuanced than they used to be."

According to Reilly, quality execution is the primary determinant of any successful offshore expansion.

"Size makes a fund able to consider offshore, but it's more important to have relationships with experts than the wrong person on the ground anywhere," he said.

Tags

Offshore Investment Funds Australia