When investing your superannuation or pension funds, it is critical to understand your investment risk profile. In any investment, you need to understand how you feel about risk and what levels of risk you are able to tolerate without losing sleep. Different risk profiles influence the appropriate investment asset allocation for a portfolio.
Risk tolerance is defined as the degree of variability in investment returns that an investor is prepared and able to accept. When investing your superannuation and pension, you need to be able to sleep at night knowing how volatile your investments may be. Some people are comfortable placing their money into higher risk investments because they may have a longer timeframe to invest and understand how markets can recover, whilst others may be more conservative and don’t want to bear the risk of their account balance falling.
Risk profiles and returns
As common sense would say – the more risk that you are willing to take when investing, generally the higher your expected returns should be. Before identifying your risk profile, you must consider the relationship between risk and returns.
When thinking about the risk of an investment, you may wish to consider:
- How comfortable you are with volatility
- How you would feel with negative returns and
- How you would feel if your investments underperformed against an index or benchmark.
When thinking about returns, this involves how much capital growth and income an investment has gained or lost during a specific time period. Risk profiles that have higher expected returns generally have higher risk, which means a greater chance of a negative return over a period and greater fluctuations in value. Hence, if you tend to dislike volatility, lower risk profiles may be more suited for you.
Examples of Risk Profiles
Some risk profiles which are used in industry and retail super funds can be seen below:
- Conservative: This is for a low risk investor who doesn’t want their investments to be volatile and is comfortable with low returns.
- Balanced: This is for an investor who is willing to take a modest level of risk to achieve higher returns than the conservative portfolio.
- Growth: This is tailored for an investor who is able to withstand short-term fluctuations in value and or losses in exchange for higher long-term returns.
- High Growth: This is for an investor who has deep understanding of the financial market and is willing to endure extensive volatility and risk to maximise long-term returns.
Completing a risk profile is not something that is completed and then forgotten. Should your personal or financial circumstances change, it is important for you to discuss with your adviser whether your current risk profile is still relevant or needs to be updated.
If you wish to complete a risk profile questionnaire, please contact us and we will be happy to go through one with you.