Have Govt bonds and fixed interest become problematic?

15 September 2020

| By Mike |

Superannuation fund members and retirees have been cautioned against too closely embracing fixed interest products and Government bonds, with actuarial research house Rice Warner warning of the possibility of negative real returns.

In an analysis published this week, Rice Warner has pointed to the traditional use of fixed interest assets in providing stability and capita protection but has warned that this may no longer be appropriate given that interest rates have reached record low levels and may reduce even further.

“Over the last six months, rates have reduced even further and there are signs that ultra- low rates will be around for an extended period,” it said.

“In line with falls in interest rates, expectations of the long-term returns that will be achieved by Fixed Income and Cash style assets have reduced,” it said. “For example, the expected long term (10-year) return on Australian Government bonds and Cash fell over the last year from 3.5% to 1.4% and from 3.0% to 1.6% respectively. While there are a range of factors driving this change, it does imply most now perceive a continuation of the very low Reserve Bank Cash Rate for the foreseeable future.”

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“While this downward shift is considerable, it is severe when we look at returns after inflation. These changes imply that fixed interest investments will realise a negative real return over the next decade and therefore reduce the purchasing power of investors,” the Rice Warner analysis said.

“In the context of superannuation, where most members have a long-term investment horizon, sustained low returns are worrisome,” it said.

“For conservative members (including many retirees), higher allocations to assets such as fixed income and cash will limit the benefit that they can expect to receive from investment returns, particularly when compounded over a lifetime. In extreme cases, high allocations to defensive assets may mean that the real value of a member’s balance is eroded over time.”