This article was originally published in The West Australian Secure Your Financial Future insert on Monday, 22nd August 2016.
For many people, when they think about investment strategy their main consideration is how they can make the most amount from their money. In reality, one of the most important decisions to make when it comes to investing is how much risk you’re willing to take to get a return.
Considering the amount of risk you are willing to take will then influence the potential return (or loss) that you can set yourself up for. Everyone wants to maximise their return, but what risks are you willing to take to get there?
Here are some key considerations:
Traditionally, when it comes to investing for retirement or in superannuation, young people are willing to take more risks and as they get closer to retirement age they become more conservative. This basic principle is based on time. How much time do you have left before you need or are able to access your money? Do you have time for your portfolio to recover after a market downturn?
Another question to consider – what returns do you need to achieve your lifestyle goals in retirement? If your portfolio is able to generate stable returns, without taking a lot of risk, then it may make sense to look at lower risk investment options. Taking less risky options may bring the added benefit of reducing your financial stress.
You might be wondering, what is investment risk?
Risk varies from person to person, but it is generally accepted that a riskier portfolio tends to contain a greater number of shares and property investments. A lot of people consider blue-chip shares and property as safe investments. However, both have the ability to go up and down significantly in value over a 12 month period. Defensive assets include investments such as cash and bonds – both government and corporate bonds.
People that choose an aggressive risk profile will have a growth portfolio of Australian and international shares with some property. A balanced portfolio can be misinterpreted as a 50-50 split between growth and defensive assets, however, it is more likely a 70 per cent split to growth assets. Conservative portfolios will have a 70 per cent tilt to defensive assets with some having a smaller amount of growth assets. According to a Lonsec Investment Outlook Report published in June this year, over the last 20 years, a typical balanced portfolio has made an average return of 8.44% p.a., whereas the conservative portfolio has made 7.06%. Those differences may not sound that great, but compounded over 20 years on a $100,000 investment, they create a difference of around $114,000.
In the current environment, because interest rates have fallen some conservative investors have lowered their sights on their return objectives. Interestingly, it is the growth part of their portfolios which is really struggling to perform with total returns from equity markets in the last year at only around 2.0%, whereas bond market returns have been quite strong at around 7.0%. Those who have been brave enough to invest in the Australian REIT market have seen their money grow by24% in the last year. These figures demonstrate that even in “ sideways” equities markets, asset classes with different risk profiles may perform quite differently, hence understanding risk and how to combine it in your portfolio is paramount to long term success.
Many superannuation funds will automatically reduce your risk level as you get closer to retirement age if you have not advised them otherwise. You need to be aware of this and consider if this is the right approach for you.
When considering the type of Investment strategy that is applicable for you, it is important to think about the amount of risk you are willing to take, the returns that you are looking for and also the timeframe you have for your investment. This will help you consider an investment strategy that is right for your personal profile as well as your stage in life. Getting personal advice to help you consider the investments you should be taking is one way to help you manage risk and get the returns that you are after.
Source: Investment Outlook Report, June 2016, Lonsec.
Blueprint Planning Pty Ltd (ABN 78 097 264 554), trading as Blueprint Wealth, is an Authorised Representative and Credit Representative of AMP Financial Planning Pty Ltd, Australian Financial Services Licensee and Australian Credit Licensee.
This article contains information that is general in nature and does not take into account your objectives, financial situation or needs. Therefore, before making any decision, you should consider the appropriateness of the advice in regards to those matters.