Despite what all those disclaimers that say you can't judge a super fund using its past investment returns, the reality is you can if you do it like the experts do, meaning you use it only as a leading indicator and you do it carefully.
By Alex Dunnin

KEY POINTS
Super funds that can't consistently earn good returns don't deserve your money. To find top performers who need to focus on the funds that are consistently at the top of the heap, year after year. To do this you must only analyse performance over the longer term. Funds without a trackrecord need to explain to you how they intend getting one. Don't shoot your fund for bad short term performance, but use it as a warning sign.

The performance of super funds over the last few years has been fantastic news for investors. But the real question for fund members is what is going to happen next year, the year after that, and the year after that, and so on until retirement. And even beyond that as we begin to live off the earnings of our super savings.

Super funds offer a range of documents - such as annual reports, product disclosure statements (PDS) and prospectuses - that are full of disclaimers about past performance not predicting future performance. But if past performance is no use to us in choosing a good fund, then why do funds talk about it all the time? They talk about it because the reality is different.

We all use past performance as one of our most important guides. Even the experts do as most trustees, investment managers and asset consultants will look to past performance as a good leading measure when assessing investments. It’s just that they use these figures cleverly as a starting guide rather than relying on it blindly, which is what the disclaimers are really trying to tell you. This means if you are confused about how complex funds can be, looking at performance can be a great place to start.

The question however is how do I use it as a guide and how reliable is it? It is of course true that past performance does not predict the future. But what if we didn’t just look at the absolute returns but we instead looked at the relative returns, meaning how well a fund ranks over the years? In other words, are good funds consistently good, or at least more likely to be good?

Another way to look at this is to realise that super funds themselves use lots of investment managers, and constantly monitor, review and change them, and 'wave hop' from best investment manager mix to best investment manager mix. It's one of the reasons why we pay them fees. The consequent logic is that if a super fund has a good investment philosophy that is professionally implemented and managed then surely the super fund should be more likely to outperform in the future, meaning get a good performance ranking even if the returns themselves may waver sometimes.

If this is not the case, then what on earth do our super funds actually get paid for? Surely it’s not just luck unrelated to what the fund's trustees, asset consultant and investment managers are doing? Indeed, if it was then every fund and their advisers would be negligent if they didn't just index their entire portfolio. (Indexing is a type of passive investment strategy, designed to invest in such a way that returns are achieved in parallel with those of the market.)

We are telling you this because analysis conducted by Rainmaker Information has consistently found that there is some truth to the idea that good super funds are more than just lucky.

Crucially, the analysis shows that the longer the time frame you study then the better the relationship gets.For example, while Rainmaker's analysis reveals a relatively poor relationship between which funds were the top performing funds this year - meaning they ranked above average - and which were the top performing funds last year (only a 36% correlation), the relationship strengthens when the time period is extended to three years (45% correlation), and it solidifies even further when measured over five years (83% correlation).

In fact, based upon the trend in these correlations, it is reasonable to expect that the 10 year relationship is likely to be almost bankable.

So what does this mean for you? It means that funds with solid medium to long-term performance histories usually have them for a reason, and this is a good initial - though not the definitive - signpost that a super fund seems to know what it's doing. On the flip side, funds without a solid performance record have to explain to you how they intend getting one. While this does not mean you should only join the top performing funds, it does mean you should be more comfortable if your chosen has a track record of being consistently good, which actually makes sense anyway.

Predicting Returns

	Relationship
Good one year returns rank in 2005 compared to good one year returns rank in 2004	36%
Good three year returns rank in 2005 compared to good three year returns rank in 2003	45%
Good five year returns rank in 2005 compared to good five year returns rank 2003	83%