Last updated: 25 January 2021
Sunsuper continues to hold a significant allocation to alternative asset classes, particularly the key unlisted asset classes – property, infrastructure and private equity. We hold these assets because they deliver strong, long-term returns, while reducing our members' exposure to share market volatility – particularly in times such as these. And we have been able to maintain significant holdings of unlisted assets due to our strong, reliable cash inflows from a relatively young membership making compulsory superannuation contributions and, on average, many years away from drawing down on their retirement savings.
Alternative assets by their nature are relatively illiquid: it would take some time to dispose of assets should the need arise. And while Sunsuper has benefitted from strong long-term returns as compensation for accepting this illiquidity risk, it is a risk that requires careful management.
Further, these assets are not immune to market and economic shocks. In a crisis such as seen in 2020, these assets tend to hold their value to a greater extent than Australian and international shares. However, given the state of the world and Australian economies during this period, the value of these assets did decline, and this was reflected in unit prices and the performance of Sunsuper’s funds. Since March, world share markets have recovered and our unlisted assets have also begun to recover lost ground. However, during such a sharp recovery in share markets unlisted asset valuations typically lag the performance of share markets and this has been the case in 2020.
How does Sunsuper manage illiquidity risk?
Sunsuper classifies all the Funds’ assets according to three separate categories of liquidity.
- High liquidity assets that can be easily sold within three days with minimal costs. Examples include shares in large companies, sovereign bonds and listed real estate securities.
- Medium liquidity assets are those that could be sold within 30 days, perhaps with some restrictions on the timing of sale and sometimes with higher transaction costs than highly liquid assets. Examples could include shares in smaller companies or investment trusts with only periodic transaction windows.
- Low liquidity assets are those with significant restrictions and/or costs to exit, likely to take longer than 30 days to sell. Examples include private equity, private debt, direct property and infrastructure assets.
Sunsuper manages the overall liquidity of the Fund by limiting the allocation to low liquidity asset classes for the Balanced option. We have taken a somewhat conservative approach by defining all our alternative assets classes as low liquidity, despite the fact some assets and strategies in these asset classes (such as certain exposures within alternative strategies) are likely to be quite liquid. The Balanced option has a strategic limit of 35 per cent to the aggregate strategic allocations to property, infrastructure, private capital and alternative strategies.
Aside from that strategic limit, the Sunsuper investment team manages the portfolio to ensure there is sufficient cash to meet all anticipated forward commitments. As part of the team’s liquidity management, both monthly and annual liquidity stress tests are carried out.
Liquidity stress testing
The monthly stress test ensures that the Fund has sufficient liquid assets to withstand a 40 per cent share market correction to meet forecast cash settlements we are required to pay. On an annual basis, the Fund’s liquidity policy is reviewed by the investment team and the Sunsuper Investment Committee.
The annual review also includes a major stress test incorporating a number of highly adverse scenarios, including:
- a 40 per cent decline in share markets,
- members switching 25 per cent of the Balanced option to the cash option;
- a large fall in the Australian dollar, requiring substantial cash payments to fund Sunsuper’s currency hedging program,
- the loss of a large corporate client,
- a rush of capital calls from our managers in alternative asset portfolios, and
- a major run on the fund, which combines all of these stress events occurring simultaneously.
How did the market environment in 2020 compare?
While market conditions throughout 2020 were severe and we saw a significant number of members switching substantial amounts into Cash, the experience was well within the limits we have been stress testing for many years.
That preparation enabled us to take action where necessary to respond to the evolving environment and ensure Sunsuper continued to be in a very strong liquidity position, with more than sufficient liquidity available to meet all member claims in a timely fashion.
How does Sunsuper value our alternative assets?
For Sunsuper’s alternative assets, which are not generally traded on public markets, valuations are less frequent, and are generally provided by investment managers who usually engage independent valuation specialists, often from the four major global accounting firms or specialist valuation firms.
Where valuers are appointed by investment managers, Sunsuper provides input on the selection of the valuer and ensures their valuation method complies with the requirements of our regulator (APRA) and the relevant fair value requirements of the Australian and international accounting standards.
Under normal market circumstances, the timing of our asset valuations is summarised in the graphic below. Depending on the asset class, valuations are carried out either monthly, quarterly, six-monthly or annually. In addition, asset valuations occur throughout the year: for example, not all property assets are valued at the same time annually. New valuation assessments are regularly incorporated into our portfolios.
Timing of our asset valuations
At least 80 per cent of our alternative assets are revalued in any given quarter. This process ensures that the daily unit price Sunsuper provides to our members is a fair and accurate reflection of the value of the assets in Sunsuper’s portfolios.
How does Sunsuper treat alternative assets in a crisis?
In addition to delivering strong long-term returns, in a crisis as we saw during 2020, alternative asset classes tend to hold their value to a greater extent than Australian and international shares. That has certainly been the case in 2020, as it was during the GFC.
However, unlisted assets are not immune to market and economic shocks. So aside from our regular valuation process and timing, we can “bring forward” the timing of asset valuations depending on market circumstances. This is particularly important during a major share market downturn. Given the state of the world and Australian economies in 2020, the value of most of our alternative assets declined and their values were adjusted downwards to better reflect their market value. As a result, these declines in value were reflected in unit prices and the performance of Sunsuper’s investment options. This ensures that the daily unit prices we offer to Sunsuper members are as fair and accurate as possible. That is, we need to ensure that members exiting our investment options do so at a price that is fair both to them and to members remaining invested.
Where to from here?
We have no way of knowing with any certainty how the COVID-19 outbreak will evolve from here, or how the economy and financial markets will evolve over the course of this year. We do not invest money based on our own, or anyone else’s short-term economic or market forecasts. While ongoing support from fiscal and monetary policy and the impending roll-out of COVID vaccines are clear positives for the Australian and global economic outlook, periodic outbreaks of the virus are likely to continue to impact on economic conditions given that a successful and broad-based vaccination program is likely to take considerable time.
Recent political developments in the US have been viewed positively by financial markets. The election of Joe Biden as President and the Democrats wining effective control of Congress following the Senate run-off elections in Georgia have raised hopes for further fiscal support for the US economy and for more aggressive efforts to rollout vaccines and contain the virus, although concerns over potential tax increases have somewhat tempered the markets’ enthusiasm. We continue to manage Sunsuper’s portfolios prudently, ensuring the Fund has adequate liquidity and that members are able to transact at fair unit price. At the same time, we have also been able to take advantage of investment opportunities that financial crises inevitably offer.
We will continue to work closely with our managers to ensure that the assets we hold on behalf of members are appropriately valued and stand ready to adjust those valuations – in either direction – as circumstances require.