Schroders Institutional SeriesIt’s more than just Bonds vs Equities

Chris DurackDirectorHead of Product and Distribution

September 2012

2

3

Three random individuals

Note: Any likeness to real people is entirely coincidental

(Sir) Ed (Dame) Kiri (Just) Darren

4

40 year savings outcomes

End benefit as a multiple of salary

Ed Kiri Darren

9.1

13.6

4.8

40 year average rate of return

Ed Kiri Darren

5.92% 5.99%

2.05%

Source: Why SAA is Flawed, Schroders, April 2012

5

Why the difference?

1919, Ed

1958, Kiri

1935, Darren

– SAA

– Contribution rate

– Investment approach

– Time horizon

6

Dinner party conversationAverage outcome: 10.4x Salary

Source: Schroders

Ox Pig Rat Tiger rabbit Sheep Horse Dragon Monkey Snake Dog Rooster4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

11.211.1

10.810.2 9.6 9.5 8.9 8.5

8.27.4 7.4

5.9

Mul

tiple

of S

alar

y

7

What is the problem?

– Major assumptions made

– Approach has too many constraints

– Path dependency

8

Assumption 1: Objective = SAA

190919151921192719321938194419501955196119671973197819841990199620012007-5%

0%

5%

10%

15%10 Year Rolling Real Returns

Source: Schroders, Global Financial Data, Balanced fund is 30% global equity, 30% Australian equity, 30% Australian bonds, 10% cash.

9

Assumption 1: Objectives = SAA

CPI + 5% CPI + 4%

85

53

Years required to have 90% confidence...

40 Years 20 Years 10 Years

2.60%

2.10%

-0.80%

Or another way…What's the best I can promise with 90% confidence over

Source: Why SAA is Flawed, Schroders, April 2012

10

Assumption 2: All members are equal

Year drawdown starts

Source: Schroders, Global Financial Data

1972 1951 2007 1987 1945 2000 1929 1919 1969 1911 1994 1940 1937 1907

-50%

-40%

-30%

-20%

-10%

0%

Max

dra

wdo

wn

11

Assumption 3: Equity assumptions are logically consistent

Austra

lia

South

Africa

USA

Sweden

New Zea

land

Canad

aW

orld UK

Finlan

d

Denmark

Netherl

ands

Europe

Norway

Switzerl

and

Irelan

dJa

pan

Spain

France

German

y

Belgium Ita

ly0

1

2

3

4

5

6

7

8 112 Year Real Returns for Equities

Credit Suisse Global Returns Yearbook, 2012, Real returns from 1 January 1900 to 31 December 2011.

% p.a

12

Assumption 3: Equity assumptions are logically consistentASX Market cap as % of Nominal GDP

1917

1923

1929

1935

1941

1947

1953

1959

1965

1971

1977

1983

1989

1995

2001

2007

2013

2019

2025

2031

2037

2043

2049

2055

2061

2067

2073

2079

2085

2091

2097

2103

2109

0%

20%

40%

60%

80%

100%

120%

140%

160%

180%

Source: Schroders

13

Approach is wrong – something has to give

Positive Real ReturnsCPI + 4-5%

Fixed SAA70/30

Over rolling 5 – 7 year time frames

14

Approach is wrong – significant flexibility required in Asset Allocation

1900-09 1910-19 1920-29 1930-39 1940-49 1950-59 1960-69 1970-79 1980-89 1990-99 2000-090%

20%

40%

60%

80%

100%

-4%

-2%

0%

2%

4%

6%

8%

10%

6.3%

4.4%

8.2%

6.2%

4.5% 4.6% 4.5%

-1.5%

7.8% 8.1%

4.6%

Asset Allocation and Real Returns by Decade

Global Equities

Aust. Equities

Bonds

Cash

Real Return

Source: Schroders, SMART, Global Financial Data

Asset Allocation Real Return % p.a

15

1900-09 1910-19 1920-29 1930-39 1940-49 1950-59 1960-69 1970-79 1980-89 1990-99 2000-09-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%Difference in Asset Allocation from Standard 60/40

More Growth

More Defensive

Significantly more flexibility required

Source: Schroders

16

Path dependency

First 20 years Second 20 years0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

1% increase in contribution rate 1% increase in earning rate

Impact of contributions and investment returns as members age

Source: Schroders. 40 Year contributions at base contribution rate of 9% of salary, indexed at 3%p.a. Annualised earning base rate 8%p.a.

% increase in end benefit

17

Path dependency

1900 1906 1912 1918 1924 1930 1936 1942 1948 1954 1960 1966 1972 1978 1984 1990 1996 2002 2008-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

Difference in money weighted and time weighted returns on accumulated benefit over 20 years

Start Year

Rel

ativ

e Im

pact

of A

ccum

ulat

ion

Proc

ess

% D

iffer

ence

in E

nd B

enef

it

Money Weighted Better

Time Weighted Better

Source: Schroders, Global Financial Data. Assumes contribution of 12% of salary and salary increases each year of CPI+2%.

18

Path dependency

19001903

19061909

19121915

19181921

19241927

19301933

19361939

19421945

19481951

19541957

19601963

19661969

19721975

19781981

19841987

1990 10

20

30

40

50

60

70

80

90

100 Duration of Drawdowns

Year Drawdown Commences

Num

ber o

f Yea

rs D

raw

dow

n La

sts Drawdowns haven't run out yet

Source: Schroders, Global Financial Data. Assumes initial drawdown of 7% of capital at end of year and indexed thereafter with inflation. Investment return based on stylised balanced fund with fixed strategic asset allocation of 30% global equity, 30% Australian equity, 30% Australian bonds and 10% cash.

19

Are returns predictable?

1990 1995 2000 2005 2010 2015 2020-5%

0%

5%

10%

15%

20%

25%Actual 10 year returnForecast 10 year return

1951 1958 1965 1972 1979 1986 1993 2000 2007 2014 2021-10%

-5%

0%

5%

10%

15%

20%

Actual 10 year return

Forecast 10 year return

US Equity Market Australian Equity Market

Source: Schroders, Datastream, Predicted return is calculated using inverted Shiller PE, Annual data

20

Which is the better portfolio?

Source: Schroders, SMART VaR, *High yield used as a proxy for other assets (e.g. unlisted)

Australian Equities

Global Equities

Australian REITs

High Yield Bonds

High Yield Floating

Rate

Australian Bonds

Index Linked Bonds

Cash0

5

10

15

20

25

30

35

40

Industry AverageForward Looking Base

21

Which is the better portfolio?

Source: Schroders, SMART VaR, *High yield used as a proxy for other assets (e.g. unlisted)

Real Return Volatility Prob. Of Loss 95% VaR 95% CVaR 99% Stress VaR

-25

-20

-15

-10

-5

0

5

10

15Industry AverageForward Looking Base

22

Are markets cheap?Asset class yield vs 20 year range

US

Eq

UK

Eq

EU

Eq

Pro

pert

y R

EIT

s

Aus

tral

ian

Eq

10Y

Tre

asur

ies

Gilt

s

Bun

ds

Aus

tral

ian

10Y

IG B

onds

US

Hig

h Y

ield

EM

D$

EM

Loc

al B

onds

0%

5%

10%

15%

20%

25%

30%

35%

Series1 Minimum - Maximum CurrentSource: Datastream, indices over 20 years to 31 August 2012 or since inception to 31 August 2012 if < 20 years of history available. DataStream indices for US Equities, UK Equities, EMU Equities, Australian Equities, US 10y bonds, UK 10yr bonds, EU 10y bonds, Australian 10y bonds, Merrill Lynch US Corporate Master, Merrill Lynch US HY Master, JPM Global EM Bonds, JPM GBI EM Diversified Bonds, FTSE EPRA NAREIT Developed Index.

23

Do you have a choice?

Retail Funds

SMSF’s

24

Governance is a large part of the issue

Objective Fund Strategy

Asset Class Strategy

Implementation Selection Monitoring

CPI+ 70 / 30 Small cap,Large Cap,

Active, Passive

BenchmarkRestrictions

Tax

XYZ Asset Management

Performance vs Benchmark

1,3 yrs

Low

High

Fund Impact

Source: Schroders, stylised

25

We have to change the governance emphasis

Short Long

Implementation emphasis

– Fixed SAA

– Asset Managers

– Short - term alpha

– Benchmark orientated

Protect business risk

Measurement against

benchmarks

But who takes

responsibility?

Outcome emphasis

– Objective based AA

– Asset owner

– Absolute performance

– Absolute risk orientated

Minimise objective risk

Measurement against

objectives

Source: Schroders, stylised

26

Fixed In-terest Al-

terna-tives

Property

Australian Shares

International Shares

Fixed In-ter-est

Al-ter-na-

tives

PropertyAustralian Shares

International Shares

Part of the solution?

27

How can we reshape the approach?

Governance must change

Assumptions the industry makes are wrong– Objectives = SAA– Time horizon– Logical inconsistency of assumptions

Approach has too many constraints

We can’t hide in the averages – this is real people’s real money

It’s not a case of if or when, but how

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Investment presentationDisclaimer statementThis presentation is intended solely for the information of the person to whom it was provided by Schroder Investment Management Australia Limited (ABN 22 000 443 274, AFSL 226473) (Schroders). Investment in Schroder Funds may be made on an application form in the Product Disclosure Statement (PDS) which is available from the Schroders website www.schroders.com.au. The information contained in this Presentation is general information only and does not take into account your objectives, financial situation or needs. Before acting on the information contained in this Presentation you should obtain a copy of the PDS and consider the appropriateness of the information in regard to your objective, financial situation and needs before making any decision about whether to invest, or continue to hold.

Schroders does not give any warranty as to the accuracy, reliability or completeness of information which is contained in this presentation. Except insofar as liability under any statute cannot be excluded, Schroders and its directors, employees, consultants or any company in the Schroders Group do not accept any liability (whether arising in contract, in tort or negligence or otherwise) for any error or omission in this presentation or for any resulting loss or damage (whether direct, indirect, consequential or otherwise) suffered by the recipient of this presentation or any other person. Returns shown are before tax and fees and all income is reinvested.

You should note that past performance is not a reliable indicator of future performance. Opinions constitute our judgement at the time of issue and are subject to change. The information and opinions and associated estimates and forecasts contained in this document have been obtained from or are based on sources believed by us to be reliable, but no responsibility can be accepted for error of fact or opinion. For security reasons telephone calls may be recorded.

Opinions, estimates and projections in this article constitute the current judgement of the author as of the date of this article. They do not necessarily reflect the opinions of Schroder Investment Management Australia Limited, ABN 22 000 443 274, AFS Licence 226473 ("Schroders") or any member of the Schroders Group and are subject to change without notice.

Important Information: For further information on any charts depicting return series or analysis in this presentation see “Why SAA is Flawed”, “Asset Allocation: How flexible do we need to be?”, and “Understanding the journey to retirement”, available upon request from Schroder Investment Management Australia Ltd, April and May 2012.

28

29

Employment share by activity over time

Source: Source is 2012/13 Budget Paper 1

1900 1954 1971 2000 20090

25

50

75

100

Services Agriculture Industry

Per cent