Standard risk measures misleading for unlisted assets
The standard risk measures can be misleading when it comes to unlisted assets, whose biggest allocators are superannuation funds, and the new approach could give fund members a better understanding of risks their fund is really taking, according to Evergreen Consultants.
Part of the problem was the fact that assets that did not re-price or trade regularly showed low levels of perceived volatility, giving investors ‘a false sense of security’.
Bigger funds also argued that the risk of unlisted assets was materially lower than their listed counterparts, even though they were similar assets that faced a similar risk and return dynamics, Kieran Rooney, a Senior Consultant at Evergreen Consultants, said.
“During the Covid market drawdowns to the end of March 2020, the median growth super fund fell only 13%. This was despite global equities falling 27%. One major Australian super fund devalued its unlisted real estate and infrastructure assets by 7.5%, despite the listed equivalents falling by 40% and 30% respectively,” he said.
“If that fund had to divest those assets in that environment, you could argue that the clearing market price at that time would be substantially less than the fund had accounted for.”
Rooney reminded that for its Heatmap evaluation of super funds, the Australian Prudential Regulation Authority (APRA) used a growth/defensive framework that adjusted for the “equity-like” exposure of defensive assets and focused on long-term returns over multiple timeframes to assess the consistency and sustainability of investment performance.
At the same time, the Future Fund used standard volatility and Sharpe Ratio measures in its reporting but in recent times it adopted an Equivalent Equity Exposure, which also adjusted for the extra embedded risk in defensive assets.
According to Evergreen Consultants, another approach into looking how measures could be standardised was to stress test portfolios by stimulating various levels of drawdown for each asset class.
“There is no perfect way to account for and report on risk in a portfolio, particularly one containing high weights to unlisted assets. A combination of approaches can assist in monitoring and assessing risk in what can be unconventional portfolios,” he added.
Some large funds allocate up to 50% of their holdings to unlisted assets as they helped diversify portfolios and boost risk-adjusted returns.
The unlisted assets include private equity, private debt, unlisted property and unlisted infrastructure.
This is a massive equity problem if handled incorrectly.
Hardly fair that someone should be paying $1.25 for something worth $1.00.
Smoothing returns sounds good, but there has to be an opportunity cost in denying a unitholder the ability to acquire more units at lower prices within a market cycle. The impact of that over the longer term has to be significant.