Grow Magazine

Is it worth the risk?

March 2015

They say nothing ventured, nothing gained. The same is true in investing, where risk goes hand in hand with reward.

When it comes to choosing the right investments with your superannuation money there is no right answer. Your personal tolerance for risk, your life stage and financial goals are what matter.

Risk. It’s a word than conjures opportunity and excitement for some, pain and fear of loss for others. That’s as true in investing as it is in life.

The way you choose to invest your superannuation will, and should, reflect your personal tolerance for risk as well as hard-nosed financial calculations.

For example, should you put your money in higher risk growth investments such as shares and property, or lower risk defensive investments such as cash and bonds? Or a mix of the two?

There are at least three basic questions that you need to consider before making a decision:

  • How much risk am I comfortable taking?
  • What type of return do I need for my money?
  • How long will I be investing for?

The answers to these questions will help you choose the right investment option for your savings.

Risk and reward

The important thing to remember is that there is no right or wrong answer because your appetite for risk comes down to personal preference and circumstances. Risk tolerance is a state of mind, not a list of rules, and depends on how much risk you are emotionally prepared to take and your circumstances will allow.

For more cautious investors any loss of capital may be unacceptable, while others may be prepared to risk short-term market fluctuations in return for higher rewards over the long run.

When it comes to superannuation, the ultimate goal is to accumulate enough financial assets to provide the retirement lifestyle you desire.

Then it is a matter of working backwards to the present to see how long and how much you have to save and the return you need to reach your target retirement income. If there is a gap between the dream and reality you may need to adjust your attitude to risk or your financial goals.

Not set in stone

While risk tolerance is personal, it’s not set in stone. Your attitude to risk is likely to change over time, depending on your age, life stage and financial capacity.

When you’re in your 20s and 30s, with the prospect of three or four decades of working life ahead of you, you can afford to take more investment risk. That’s because you have time to sit out the swings and roundabouts of the investment cycle and let compound interest work its magic.

According to the Russell/ASX 2014 Long-Term Investing Report, in the 10 years to December 2013 Australian shares were the best performing asset class with an average return of 9.2 per cent a year. Global shares (8.2 per cent) came next, followed by Australian residential property (6.1 per cent).

Dragging up the rear was cash which returned just 3.79 per cent a year over the decade, barely ahead of the average inflation rate of 2.8 per cent a year. Of course, past performance is not always a reliable indicator for future performance.

This highlights that one of the bigger risks you can take when you are young is to be overly conservative and put all your superannuation money in the ‘low risk’ cash option.

As you get closer to retirement you may decide to reduce your exposure to shares and property and place more importance on capital protection. That’s because it’s harder to recover from volatility in the market when time is short. 

Beyond retirement

Even so, it’s important to understand that your investment journey doesn’t end with retirement.

The average retiree today can expect to live well into their 80s if not longer. So unless you want to outlive your investments, you need to keep a portion of your money in growth assets.

By investing in quality growth assets early in your investment journey, the more likely it is that you will reach your financial goals in retirement. That should enable you to reduce your exposure to risk later in life, hopefully secure in the knowledge that you’ll have enough money to live on when you’re no longer working.

In investment, as in life, there is no such thing as freedom from risk. The aim is to take calculated risks, without being rash. And let time in the market do the rest.

 

March 2015