The $160 billion problem with Australian SMSFs - and how to fix it

Self-managed superannuation funds in Australia are exhibiting a concerning trend in allocating a significant proportion of their assets towards property, cash and shares, with a significant under-representation of fixed income investments.

This imbalance exposes these retirement funds to heightened vulnerability in the event of a downturn in either property or share markets.

Compared to property or term deposits, fixed income can provide more attractive yields.Credit: Karl Hilzinger

Data from the ATO paints a clear picture of this trend. SMSF assets under management (AUM) rose to $1.024 trillion in the September quarter, with a record $286.3 billion allocated to Australian shares, or around 28 per cent of total SMSF assets, $161.7 billion in cash and term deposits, or around 16 per cent of total assets.

SMSFs investments in direct property totalled $165.2 billion, or 16 per cent of their total assets in the September quarter. However, fixed-income investments accounted for just $11.8 billion of SMSF assets with another $6.9 billion invested in loans – just 1.8 per cent of total SMSF assets.

These figures highlight a stark neglect of fixed income such as bonds, especially considering the substantial assets under management by SMSFs. The current investment landscape underscores the potential benefits for SMSFs of a more balanced approach to asset allocation.

While cash might seem like a safe haven, official data suggests otherwise.

Fixed income investments offer several advantages that could significantly enhance the resilience of SMSF portfolios. Compared to property or term deposits, fixed income can provide more attractive yields.

Moreover, fixed income assets such as private credit investments exhibit lower volatility compared to shares. In the prevailing economic climate, characterised by economic uncertainty and conflict in the Middle East, the stability offered by fixed income becomes crucial.

The negative or low correlation that fixed income typically has with shares can act as a buffer during periods of market turbulence.

Cash investments aren’t paying up

While cash might seem like a safe haven, official data suggests otherwise. Term deposit rates are falling in Australia, according to data from the Reserve Bank of Australia (RBA).

The average interest rate on one-year term deposits fell to 4.25 per cent in October 2024 from 4.55 per cent in January, while the average advertised rate on three-year term deposits fell to 3.35 per cent from 4 per cent.

The big banks are paying much less on term deposits than they were at the beginning of the year; for this reason alone, it may pay SMSFs to wind back their record levels of investment in cash and term deposits and instead allocate some of that funding to private credit investments, a form of fixed income linked to property and corporate lending.

For income-seeking investors willing to take on more risk than that involved with cash or term deposits, private credit investments can deliver investors yields close to 10 per cent per annum, which is almost double typical yields on cash and on residential properties, which typically fall below 5 per cent.

This is important because ultimately, it is income-yielding assets that will support investors in everyday living and in retirement.

Private credit funds also typically pay a premium to returns on Australian investment grade corporate bonds, as measured by the S&P Australia Investment Grade Corporate Bond Index, which returned 7.67 per cent over the year to 25 November 2024.

For these reasons, SMSFs should consider diversification into private credit, which offers a relatively attractive income stream and capital protection through stringent loan assessment and loan management processes combined with mortgages over real property as security.

A key factor for investors is to ensure their capital is invested sensibly and is protected through security over the loans, including mortgages over property and general security agreements over the business assets in which the fund invests.

Investors in private credit also need to fully consider their liquidity needs and capital protection offered by the fund before investing in private credit as the investment class is not as liquid as cash.

Tim Keith is managing director of private credit fund manager Capspace.

• Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that takes into account their own personal circumstances before making any financial decisions.

Expert tips on how to save, invest and make the most of your money delivered to your inbox every Sunday. Sign up for our Real Money newsletter.