Investment Gain without the Pain

Viresh Maharaj, Executive, Strategy and Customer Experience, Alexforbes

Investing is a contact sport with ups and downs of emotions but people typically feel the pain of loss more than the satisfaction of gain. Values can and do fall rapidly over short periods of time resulting in emotional distress and potentially reactionary decisions.

“Our insights show that investors who actively switch between portfolios – whether to time markets or in response to emotions – typically experience lower returns of 2% to 3% per year. This can have serious consequences for retirement outcomes, especially considering that every 1% additional return per year over a 40-year savings period could translate to a 28% higher pension in retirement,” says Viresh Maharaj, executive: strategy and customer experience at Alexforbes.

According to Maharaj, “Securing better retirement outcomes lies not just in the investment returns achieved, but also in the investor’s experience of earning these returns.”

Improving the investor’s experience

Alexforbes recently launched the AF Retirement Navigator, an innovative, smoothing-only investment solution. Members benefit from a smoother investment experience over shorter periods and investment growth over longer periods. A more comfortable investor experience means they can stay on track to achieve better outcomes at retirement.

A transparent and defined smoothing framework pioneered by Alexforbes is used to distribute the actual returns earned on the underlying portfolio, AF Performer, to investors in monthly bonuses. The bonus rates that are declared are informed by the actual investment returns and will be more stable over shorter periods to improve the experience of investing while aspiring to deliver meaningful long-term growth.

Put to the test

We applied the bespoke smoothing methodology on the past returns of the actual underlying growth engine to produce bonuses for AF Retirement Navigator over a 25-year period from October 1997 to August 2022 to put this proposition to the test:

AF Navigator beat the target of inflation + 5% by delivering returns of 13.6% per year before fees
AF Navigator reduced the number of negative returns experienced over the period by 80%

(Only 19 months of negative market returns for AF Navigator over the full 299-month period compared to 96 months of negative returns for a market-linked equivalent).

This is a compelling set of results that has already caught the attention of many retirement fund investment committees across the country.

What about guaranteed funds?

Guaranteed, or smoothed bonus, portfolios, have traditionally catered to investors who dislike drops in their investment values. In guaranteed portfolios, investment returns on the underlying investment instruments are usually “smoothed” and spread more evenly to investors in monthly bonuses. Varying levels of guarantees are provided to ensure that investment values do not fall beyond a certain point to provide comfort to investors that a floor on their values is in place.

Conceptually, guaranteed funds make sense but they have also attracted criticism due to the costs of their guarantees, which depend on the extent of the guarantee provided for. This cost alone has ranged from 0.2% to upwards of 1.5% of assets under management per year.

The expectation of the protection offered by certain guaranteed products does not always match the reality as portfolios require significant falls for the guarantees to take effect and, even more tellingly, certain non-vested bonuses were forfeited by members in guaranteed funds during Covid.

In addition, the underlying growth engine of guaranteed portfolios is typically relatively conservative to mitigate the risk of sharp falls but this constrains their ability to deliver meaningful growth over the long-term relative to performance oriented portfolios. The investor therefore sacrifices growth potential due to the combination of the costs of the guarantee and the conservative portfolio construction in favor of stability.

The AF Navigator differs from traditional insurer dominated guaranteed funds in four ways:

1. No guarantee fees as there are no guarantees on the underlying market value returns, or money invested. This matters significantly when considering the impact that costs make over the duration of their investment journey.

2. Built in partnership with leading insurance provider, Momentum, and independent multi-manager, Alexforbes Investments. The solution combines our investment expertise with the balance sheet expertise of Momentum. Members benefit from joint oversight and independent governance, which means much of the conflicts of interest typically associated with guaranteed funds are managed.

3. Invested for growth as the engine behind AF Retirement Navigator is AF Performer – our best-view, multi-asset growth portfolio. AF Performer has a successful track record of delivering superior long-term performance relative to single- and multi-manager peer groups,[1]. AF Performer aims to deliver yearly returns that beat inflation by 5% over any 5-year period.

4. Best-of-breed manager selection as the growth engine of the portfolio is AF Performer whereas smooth bonus products from insurers are invested almost exclusively in their own in-house asset managers. This means that AF Navigator is able to apply independence and objectivity to manager selection to seek risk-adjusted performance in the best interests of members.

Fit for purpose

Already available via Alexforbes’s umbrella funds, the AF Navigator is now open to institutional clients as a default investment portfolio or as the pre-retirement portfolio in life-stage structures for retirement funds.

Fewer monthly fluctuations reduce the pain of losses over short periods and can go a long way in helping members remaining invested for longer, leading to better retirement outcomes. “The AF Retirement Navigator is a solution that we are proud to add to our stable and, for many retirement fund members, it might just be the vehicle required to navigate towards investment gain without having to bear the pain,” says Maharaj.

ENDS

,[1] Single-manager peers refer to managers in the Alexforbes Large Manager Watch survey. Multi-managers refer to managers in the Multi-Manager Watch survey.