Our comprehensive review of Default KiwiSaver fund performance to September 2016, identifying who has the best long-term returns

By Craig Simpson

Default funds held their course during the quarter and our regular savings model balances continue to grow.

Compared to the March returns of six months ago, the top three funds managed by Mercer, ANZ and ASB have all improved their long-term returns based on our return calculation methods.

We have seen one-month returns from two of the leaders come in marginally negative over the past month, while others are marginally positive and in line with the returns received from a three-month bank bill over the same period.

With over $35 billion in KiwiSaver and the average balance of just $13,000, anyone following the tried and true path of making regular contributions and who keeps picking up the member tax credit from the Government should be well ahead of the average since the inception of KiwiSaver. 

Mercer's Default Fund retains the top spot in our regular saving model and has been extending their lead over ANZ (see table below). There is no best in class award this quarter as although Mercer Conservative Fund is ranked number one, their three-year returns are trailing the longer returns based on our regular saving model. Our award is normally given to the top performing fund when the three-year data is ahead of, or equal to the long-term return.

The fund with the best performance over the past year is the ASB Conservative Fund. This fund is passively managed (index tracker) and is making in-roads into the two predominately actively managed portfolios that sit ahead of it on the leader board. The lower fees charged by the ASB fund will be assisting their performance.

It is interesting to see a passive fund which aims to replicate broader market indices at the lowest possible cost outperform funds which employ analysts, strategists, and managers whose job it is to try and beat the market.

For so long we have seen actively managed portfolios outperform passive funds within some segments of the KiwiSaver market. Are we now seeing the worm turn back in favour of low-cost passive funds?

Observations and factors impacting default portfolios

Firming expectations of rising interest rates in the US have investments such as bonds and global property under-perform the balance of the market. All Default funds are heavily weighted to fixed income assets and will see their returns negatively impacted.

Default funds that are cash heavy such as AMP, ANZ and BNZ, will be able to take advantage or rising rates but may be missing out on better returns from other assets such as global bonds or equities.

NZ Property listed funds continue to provide investors here with some decent running yields and returns. Rising interest rates in the future will impact financing costs within the fund and this will flow through to the bottom line. The NZ listed property sector could also fall out of favour as the dividend yields have been falling and the premia that once existed is shrinking. NZ property funds are becoming less attractive for local institution investors according to a UBS analyst report on the sector. Within Default funds Fisher Funds Two, ANZ and Westpac have the highest property exposures (listed and unlisted)

Locally, the Government Bond index return was negative for the past month and has been trailing global bond returns over the last quarter. When we looked under the hood of some of the Default funds back in June we found a large exposure to NZ Government bonds within portfolios of ANZ, Fisher Funds Two, ASB & Westpac. On the basis these managers are still heavily weighted to government bonds their returns will be a little softer over the past month and quarter.

The flip side to this, the Default funds with greater exposure to corporate bonds (both local and global) will have performed better. Booster (formerly Grosvenor) was one manager that has previously favoured corporate debt over government bonds. Global bonds hedged back to NZ dollars have outperformed NZ equivalents. Historical data showed the Fisher Funds Two portfolio was heavily exposed to NZ bonds, while many of their competitors such as BNZ, Mercer and KiwiWealth prefer global bonds. Funds with a bias to NZ bonds should see returns trailing those funds with a bias towards global securities over the past 12-months.

We have seen NZ equities record a negative return for the past month and this will be taking some of the shine off the returns of those Default funds with heavier exposures to the local stock market. An example would be ASB's Conservative Fund where the manager has exposure to many of the top companies listed on the NZ stock exchange. Having said this the local market remains bullish and the returns for the past quarter and 12-months are well ahead of many other developed nation markets.

Underpinning the local equity market has been investors hunting for yield in the current environment and interest from overseas exchange traded funds (ETF's). With large funds buying into our market on a regular basis the impacts from movements in overseas markets have been suppressed.

While global equity markets have been relatively flat overall, there is insufficient exposure to growth assets in the Default funds to offset some of the negative capital movements in fixed income assets. With global markets rising and NZ shares retreating some Default funds will be getting a double hit during the month of September. Fully hedged global equities have provided a nice pick up in returns over unhedged positions and those taking the bet each way with a 50/50 hedged/unhedged portfolio. Based on historical data nearly all the managers have some exposure to hedged global equities in the top 10 holdings as we uncovered in a previous story.

A rampant NZD compared to our global trading partners will be taking the top off some of the unhedged investment positions which many of the Default funds have, especially in their equity portfolios. All of the global bond exposures are hedged. The currency impact in a Default fund which has unhedged global equities will be relatively small compared to a more equity or growth-focused strategy which we will be covering in later KiwiSaver reviews.

Market Overview

Volatility returned early in the quarter as traders struggled to come to grips with the Brexit outcome. Markets were promptly reassured there was plenty of money in the financial system rainy day fund and life soon returned to normal.

Adding to the volatility was speculation German banking heavyweight, Deutsche Bank, could become the next Lehmann Bros without further capital injections. Subsequently, Deutsche Bank has been selling down assets in an effort to steady the ship. Reports of counter parties moving money away from Deutsche Bank gave the fear-mongers more fodder to chew on.

Fixed income markets caught the same cold as equity markets. Uncertainty over future interest rate cuts by the RBNZ and an upward bias in global interest rates resulted in longer dated NZ bond yields moving higher. Funds with a high concentration of NZ bonds will have seen some of the capital gains leak away.

Of the major central banks, Bank of Japan (BoJ) was the only one to make any meaningful alteration to their monetary policy during the period under review. Previous bids to stimulate the Japanese economy have failed so the BoJ is trying something a bit out of left field. In doing so they've declared intentions to overshoot their inflation target.

Other activity during the quarter

It's been a busy period for re-branding and marketing of funds with three schemes changing their names. Craigs Investment Partners KiwiSaver scheme took on the name of their underlying manager Quay Street, Forsyth Barr's KiwiSaver funds become Summer with well respected financial commentator Martin Hawes on board and Grosvenor became Booster. Booster's Conservative fund is now called the Booster Moderate Fund.

All in all, new names but effectively no changes to the underlying teams managing the money.

What is new, however, is the launch of Simplicity KiwiSaver. The KiwiSaver equivalent to Uber, is now open to the general public and from what we understand is off to a flying start with much of their new money coming from customers who are seeking lower fee costs that are usual in this industry.

KiwiSaver default funds are only part of a broader range of conservative funds available. Many of the 'traditional' Conservative and Cash funds are underperforming the Default funds. We will look at the rest of the Conservative funds in another article.

For explanations about how we calculate our 'regular savings returns' and how we classify funds, see here and here.

There are wide variances in returns since April 2008, and even in the past three years, and these should cause investors to review their KiwiSaver accounts especially if their funds are in the bottom third of the table.

The right fund type for you will depend on your tolerance for risk and importantly on your life stage.

You should move only with the appropriate advice and for a substantial reason.