SMSFs advised on capturing upside and downside trends to assess risk impacts on portfolio

Insync Funds Management chief investment officer Monik Kotecha said, for those using specialist managers, trustees increasingly expect those managers to outperform the market when it is rising but protect them in falling markets. Otherwise, he noted they can just buy a benchmark cheaply and accept a constrained return without any real alpha contribution.

“This is important because, at the most basic level, a portfolio that falls less than the market is protecting member assets, and for people in pension phase, or getting close to retirement, that means a longer period before money runs out, or a higher living standard,” Mr Kotecha said.

“Think about a simple example: a market correction of 30 per cent requires an investor to make a positive return of almost 43 per cent to get back to where they were, but a fall of only 20 per cent needs only 25 per cent to break even with pre-downturn levels.

“A portfolio that is protecting members on the downside is ensuring they will recoup losses quicker and/or extending the longevity of assets. So, it’s not all about the upside; the downside protection is critical.”

Mr Kotecha said this will mean quality businesses that invest heavily in their future activities are future-proofing their growth and building a “moat” around their earnings. Many fintech businesses, for instance, have low barriers to entry unless the firm is investing to keep raising that barrier. 

“Amazon is an example of a tech stock investing heavily to future-proof their market position through all parts of the economic cycle. This is important for SMSFs to consider when chasing sustainable growth in benign or rising markets, and also to mitigate market downturns,” he said.

“Quality firms that are profitable and positioned well through disruption generally are not punished by market corrections to the same level as more speculative stocks with lower levels of profitability and free cash flow.”

Hence, taking a higher exposure to quality firms over time in a portfolio becomes more attractive as members move towards retirement to reduce the potential impact of a market mishap, according to Mr Kotecha.

“No immediate pre- or post-retirees want nasty surprises, and extensive research proves the highest-quality firms — i.e. large, profitable and innovative firms — retain their high ROIC over time and produce sustainable growth through all market cycles and increasing stock price levels in the long term,” he explained.

By focusing on the ability to add value through consistent upside and downside participation, Insync said, in the bottom line, the manager is significantly outperforming the market in the long term (4.87 per cent p.a. better off than the MSCI), and in doing so, protecting SMSF member benefits or the longevity of pension payments.

“This is the benefit of using an active manager with an eye on both rising and falling markets. SMSF trustees have neither the time or skills to create a portfolio that consistently generates these outcomes, and this becomes so much more important as retirement draws near,” Mr Kotecha explained.