Inside Money: NZ Super measures twice, squeezes 0.2pc extra out of benchmark

According to its latest performance figures, the NZS has beat its 'cash plus' benchmark by over 3 per cent since inception (in 2003). Image / iStock

David Chaplin, editor of financial services industry website Investment News, looks at investment performance measures.

Benchmarks are relatively important to investors: without them the performance figures churned out by fund managers dissolve into random floating numbers.

But gauging investment performance isn't as simple as whipping out a retractable metre-denominated device to finally answer that question about how long a piece of string is.

Investors can choose from a range of performance yard-sticks. The roughly $30 billion New Zealand Superannuation Fund (NZS), for example, has at least two performance-measuring implements stored away in its back shed.

Firstly, the NZS compares its returns against what it would've earned by simply lending the NZ government money at short-term (90 days) rates over multiple periods.

From inception in 2003, the NZS set itself the task of outperforming this 'Treasury bills' baseline by at least 2.5 per cent.

This 'cash plus' benchmark has the beauty of simplicity but it's more of a 'that'll do' hand-held ruler measurement rather than a carefully-calibrated laser reading of distance.

In 2009 the NZS built its version of the laser measure out in the tool shed.

The 'reference portfolio' reconstructs what the NZS would've earned by investing passively in various asset classes, according to its allocation strategy.

If the NZS failed to perform by its first measure, the government might as well close up shop and put the money on term deposit. But if the fund could merely keep track with the reference portfolio, it might have to slash its 100-odd staff down to five (four of whom would be in IT, so overall costs wouldn't change that much).

According to its latest performance figures, the NZS has beat its 'cash plus' benchmark by over 3 per cent since inception (in 2003). The NZS also out-peformed its reference portfolio by 1.2 per cent over the same period.

This week the NZS updated its reference portfolio measuring thingymajigg.

And although the revised reference portfolio doesn't look much different from a distance - the NZS has kept the same broad 80/20 split between growth and income assets (essentially, shares and bonds) - there have been a few interesting component changes.

As well as removing a redundant listed global property part (its 5 per cent now built into the broader international shares exposure), the NZS strapped on an emerging markets super-charger into the reference portfolio that could boost performance.

However, the NZS lowered its forecast nominal long-term returns for the reference portfolio from 8.5 per cent to 7.7 per cent in the review.

The decline was due entirely to the long-term 'risk free' - or government bond - returns falling from the 6 per cent prediction in 2010 to 5 per cent on current settings.

Despite the fall in expected nominal returns, the rebooted reference portfolio is actually primed to deliver more relative performance for the NZS.

In 2010, the reference portfolio was expected to return 2.5 per cent (after costs) above the 'risk free' rate. Due to the higher exposure to emerging markets, the removal of rounding made in 2010, and expected lower portfolio management costs, the reference portfolio is now set to return 2.7 per cent more than investing in government bonds.

That might not sound like much, but a prospective 0.2 per cent above-benchmark return on $30 billion adds up to something significant.