There are a lot of claims that superannuation funds have delivered superb, double-digit returns for investors in the news recently, e.g. here: Superannuation funds deliver double-digit returns for Aussies amid AI boom: ‘Tremendous result’.
Whilst this is undoubtedly true, it is equally important to recognise that asset prices across virtually all major asset classes have been lifted by the significant expansion in global money supply following COVID-19. Combined with persistently higher inflation, this has also raised the hurdle rate for generating meaningful real returns, that is, returns above inflation.
What also matters is how those returns were achieved, as many major equity indices have simply been riding an “AI-wave” that exploded after the introduction of Chat-GPT in 2022, and has continued via data-centre build outs and now semiconductor names. In investment markets, there are many ways to achieve returns, and whilst this momentum-driven AI moment has proven fruitful for many, it came with many harsh market drawdowns (including the Trump inauguration, yen carry unwind, US-Iran war and Russia-Ukraine war). The reality is, there is more than one way to get to the same place within multi-asset portfolios, and within equities specifically, not overpaying for assets has been crucial in this cycle to avoid such drawdowns and achieve similar, if not, greater returns. Momentum can work for you very well, until it doesn’t. We believe in momentum as a persistent driver of equity market returns, but it should be taken in combination with other compensated equity factors to ensure one is getting the diversification benefits of factor investing.
Super Fund Return Comparison – Post-COVID Regime
To provide a like-for-like comparison, we identified the diversified superannuation investment options referenced in the article above with approximately 80% allocated to growth assets and compared them with the Innova Risk-Defined Aspiration Portfolio, which has maintained an average growth allocation of around 80% over the past five years.
We focus on the five-year period because it captures one of the most challenging investment environments in recent history. The post-COVID regime has been characterised by heightened macroeconomic volatility, elevated inflation and unprecedented fiscal stimulus, forcing investment managers to rethink many of the portfolio construction principles that prevailed over the previous decade. Clearly, this regime is much more challenging in terms of diversification. The classic example is the unstable relationship between equities and bonds, which post-COVID has had more of a positive correlation than a negative one, hurting investment managers that used the playbook of the previous 10 years.
Below is the reference to the super funds we will compare to:
The chart below shows the 1-year return on the X-axis, plotted against the 5-year return on the Y-axis.
The same data is also shown in tabulated format below:
The Path to Get there
Our Risk Defined Aspiration portfolio has outperformed all of the options within the referenced article, but more importantly we have achieved this result while being significantly underweight the “international equities and exposure to the US-led artificial intelligence boom.” the article claims drove the double-digit superfund returns.
The chart below shows our global equity sleeve within the Innova Risk-Defined Aspiration portfolio, and its correlation to the “AI” or heavy-tech proxied by the Nasdaq ETF, NDQ, relative to VGS (Developed Markets ETF). Our portfolio clearly has barely relied on AI to drive returns, and has even been negatively correlated during major drawdowns due to resilient holdings such as VLUE, F100 (UK Equities), IKO (Korea before it was expensive) and GDX.
Now we show how avoiding expensive and crowded assets (momentum-heavy AI-related growth names) can mitigate severe drawdowns during bear markets / volatile moments that we have experienced in the past 5 years.
We show the same for volatility below, proxied by 30 Day rolling volatility:
Clearly, by avoiding these expensive, crowded assets, one can navigate shocks more smoothly, with similar returns. Below we compare against the broader VGS/VGAD (developed market) ETFs because using Nasdaq would be cherry-picking the winners.
Going forward, achieving these types of returns is likely to become more difficult. With AI-heavy indices in both developed and emerging markets now trading at stretched valuations, a more nuanced equity strategy is essential. By diversifying across empirically proven compensated equity factors, avoiding expensive regions and sectors, and selectively targeting pockets of the market trading at fair value or at a discount, which, have historically benefited from the expected macroeconomic environment (such as REITs or global small caps if macroeconomic volatility from the Iran war subsides), investors do not have to simply hug benchmarks. Instead, they can position themselves to outperform while avoiding the punishing drawdowns that often accompany periods of heightened market volatility, which are likely to occur again.
