Look to infrastructure for property-like returns

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As very low world interest rates continue to stifle most investment returns, many SMSF trustees may need to pay more attention to their investment strategy, especially their asset allocation. Not only may total returns lag, but the demand for more distributable income may require a re-think in some strategies.

These are more medium to longer-term concerns, and they can easily be forgotten when trustees are concentrating on managing a short-term, which is dominated by uncertainties in world stock markets. Such as: when will US interest rates rise – and how will that affect our markets? Or: can Australia hold off raising local interest rates that might cool the rush into property – without sending the $A higher?

A long-term strategy

But the longer-term concerns have been highlighted in a report by the Institute of Actuaries of Australia, which was requested by David Murray’s Financial Services Inquiry to give an idea of the likely changes in capital flows over the next 30 years. It predicts $5 trillion (in real terms) of assets in super by 2040, a rise in super from 108% to 160% of GDP and a slight decline in market share of SMSFs as they see a growing switch from accumulating to paying out pensions.

The swing towards pensions will see a greater preference for more security of capital in our market, which lacks a viable retail bond and debenture market. This, in turn, also limits the possibility of establishing a market for annuities for risk-averse retirees. At the same time, local shares might lose some key attractions – for instance if scarcity of shares push returns too low or if, perish the thought, the government responds to ill-judged calls for changes to dividend imputation.

There is, however, an obvious solution staring the government in the face. It simply needs to find a more sensible way to harness the demand for capital to fund infrastructure projects to match the growing capital in super funds looking for long-term, secure income investments. By 2040, 44% of those $5 trillion of super assets will be in pension-paying funds – and those total assets will be a much greater part of the economy.

Infrastructure options

It should not be beyond the wit of Canberra to find a way to achieve this with the right vehicle and some judicious but modest tax incentives. It would be a win-win for everyone. Infrastructure projects with demonstrated cost-benefits should be able to attract capital and SMSFs and other funds should be able to lock away long-term money in secure investments.

SMSFs aren’t just chasing speculative returns from real estate by pushing into this asset class. It is, in fact, a sensible response to the need for less volatile long-term investments not as susceptible to volatile stock market swings. It mirrors the worldwide, increased flow of money from other super funds into real assets.

The concern among policymakers about SMSFs and property investment is twofold. More immediately, gearing can wreak havoc on asset values in a downturn (and no SMSF investor should believe the property lobbyists cries that real estate doesn’t have busts). And then there is the liquidity worry: with more SMSFs becoming pension funds, too much invested in an illiquid investment like property could impinge on pension payments.

If David Murray’s inquiry is to recommend winding back gearing of property investments, the government will need to have an alternative asset class in place to cater for those SMSF trustees who will still want a less volatile equity-type asset than shares. Recent dillydallying on this policy front doesn’t provide much confidence about timely action from Canberra, but the major shifts in the next 30 years surely will cause a belated policy response.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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