Strategic changes to CFS FirstChoice Investments

By Luke Kidd

We have witnessed a number of key changes to the Colonial First State investment strategy over the last 12 months. This update provides a summary of the key changes and some of the things we will be looking for going forward.

Background

Investment company KKR took on a 55% majority ownership of Colonial First State (CFS) in December 2021, with the Commonwealth Bank retaining a non-controlling 45% stake in the investment management business. As the new majority owner, KKR has invested considerably into the business, adding features to the existing FirstChoice platform and launching new technology solutions [1]. This change of ownership comes during a period of significant fluctuation in the funds management industry of Australia. It is clear to us that KKR seek to build on the significant presence that CFS holds and to expand its offering as a market leader in superannuation, retirement and investment solutions.

In August 2022, Jonathan Armitage became Chief Investment Officer at Colonial First State (CFS), replacing Scott Tully’s 20-odd years of tenure with the group. 12 months on, we have seen how this new leadership has influenced CFS’s approach to investments.

About the new CIO

A change in executive leadership is a significant shift for any fund manager and it is important to understand whether the fund remains in good stewardship after such an event. Jonathan Armitage has approximately 30 years of experience, managing investments in Australia, The UK and the USA. Prior to taking on his current role with CFS, he spent the previous 10 years as Chief Investment Officer for MLC, managing multi-asset funds, fixed income, private equity, and alternatives [2]. We consider this existing track record and experience to be important, and it is appropriate that the new CIO has had prior experience in managing a multi-asset investment team. Other senior roles within FirstChoice remain unchanged including Peter Dymond as head of portfolio management, continuing his 19 year journey with CFS.

Active Asset Allocation:

Colonial First State have made some changes to their investment philosophy and strategy that are important for investors to understand. Under the stewardship of Scott Tully, FirstChoice employed rebalancing periodically and with a medium to long-term outlook. Jonathon Armitage has sought to improve the strategic asset allocation framework and to rely more on this approach as a key driver of returns. An example of this strategy in practice occurred early in 2023, in which FirstChoice moved a significant portion of its cash holdings into fixed income markets which have become more favourably priced after the rate hiking cycle and volatile global markets experienced in 2022. Going forward, we would like to see more transparency and reporting from CFS about when this rebalancing takes place and the reasoning behind any decisions made. We would welcome regular updates such as CFS recent audio update to investors regarding their macro-economic outlook and portfolio positioning, which can be found here [3].

Alternative investments

Traditional asset classes such as listed equities, property securities and fixed income have made up the entirety of the FirstChoice portfolio under Tully’s tenure. However, CFS are now seeking to adapt the asset allocation framework to respond to current economic factors. Over the previous 3 decades global investment markets have experienced an increase in privatisation, meaning that the number of publicly listed companies has been in decline, compared to private companies [4]. This means that the publicly listed investment pool yields less opportunity and diversification than it has in the past. FirstChoice has made the decision to diversify their portfolios into private markets including private equity, direct property and private credit. Including these alternative assets can provide new opportunities for the portfolio team to achieve out-performance and new markets in which to diversify. Armitage has stated that due to current economic factors, many of these assets are attractively priced and Colonial First State has an opportunity to use its significant liquidity and purchasing power to take advantage of these opportunities [5][6].

Today, unlisted assets are held by most super funds, and are favoured by many industry super funds. As investment advisers, we have been cautious about excessive use of unlisted assets as their illiquidity can create significant issues for funds to manage during periods of high volatility. For example, we saw industry funds suspend investment switches and withdrawals, and make significant valuation write downs during the early period of the COVID-19 pandemic due to their significant allocation toward unlisted assets. Going forward we hope to see sufficient risk management and due diligence in this space and will rely on independent analysis of how this is undertaken.

One of the key challenges in unlisted assets stems from the difficulty of providing accurate and current valuations of these investments. Unlike a stock exchange, which effectively reviews the value of an investment on a minute-to-minute basis, unlisted assets must be re-valued manually by third party experts. As FirstChoice expand their investments to these areas, we hope to see a disciplined approach to risk management and transparent pricing. CFS appear to be aware of these pricing challenges; Jonathan Armitage has stated, “unlisted assets absolutely have a place in investment portfolios, provided they can be independently valued at least quarterly so that members, and financial advisers, can make informed decisions about the investment options that underpin their retirement” [7].

What is staying the same?

Despite some of the strategic changes outlined above, many of the fundamentals remain unchanged:

Mercer remains a partner as an external consultant in the Strategic asset allocation and manager research.
Long term strategic asset allocation remains the key focus of the portfolio strategy.
FirstChoice has retained its extensive use of best-in-breed third party managers to conduct stock selection and implement specialist strategies.
The investment team is made up of several well experienced sector specialists and portfolio changes are approved through a committee process.

Conclusion

In investments and in life, change is the only constant. Our investment philosophy recognises that the scale, resources, and personnel that investment managers have at their disposal can provide better outcomes for investors. Our role is to help clients understand how their savings are invested and what it means for them. Under its new leadership, CFS is seeking to change with the times and continue to deliver strong returns for its members. While the new approaches described above can carry risks, there are also risks inherent in maintaining the status quo if that approach is no longer suitable. We have been glad to see that concerns around risk management and transparency have been addressed by CFS in announcing many of these changes. As investment advisers, we will continue to monitor the implementation of these strategies along with the support of our licensee and independent, third party research. If this update has raised questions or if you would more information, we are happy to discuss further if you would like to contact us.