What is investment risk?
Investment risk is the possibility of losing money on your investment. It’s also known as negative returns. There are a lot of different risks in investments including market risk (share market declines), concentration risk (all your investments in one basket) and foreign investment risk (including currency risk).
Many factors play a role in investment risk, including government or corporate policies, legal decisions, international markets and politics, new technology, and even environmental factors.
Lower risk versus higher risk
Traditionally, different types of assets have been regarded as having different types of risk. There is often debate about where a particular asset might be included but generally:
Lower risk examples include:
- Fixed interest-term deposits
- Government bonds
Moderate risk assets such as:
- Property and property trusts
- Managed funds
- Blue-chip stocks
Higher risk investments, for example:
- Currency trading
- Derivatives (such as options and futures)
Why would I take a high risk path?
Commonly, (but not always) higher risk investments carry the potential for higher returns over the long-term. It is this timeframe that can make all the difference.
A well-managed balanced or higher-risk portfolio would expect to see positive returns in about three out of every four years. That means, over a 20-year period, it can expect five or six negative ones. Given that length of time, your portfolio should be able to cope with those few bad years, because the total earnings across all the good years would exceed the losses in the bad years.
On the other hand, a lower risk portfolio may only see one negative return in a 20-year cycle, but the overall earnings in that period are also quite low.
Short-term versus long-term risk.
This one trips lots of people up. Short-term stability may mean longer-term losses. For example, if you sell your shares and invest it all on cash, you lower your short-term risk. However, in the long-term, shares outperform cash. So, over the course of a decade, by staying in cash you might get less for your investment and your long-term risk of low returns could actually increase.
How does this work with super?
Industry SuperFunds give members a lot of control over their investments, if the member wants it. For instance, members can often choose to invest in shares and geographies (Australian versus global) or types of companies (e.g. socially and/or environmentally sustainable).
Alternatively, members can choose a ready-made portfolio type which reflects their investment objectives – from conservative and stable to high growth. In these options, the funds’ investment teams use their specialist know how to create a portfolio that most closely matches a particular goal (e.g. conservative, balanced, growth) or type (e.g. Australian shares, international shares, socially/environmentally sustainable investments).
It’s also easy to ask your fund to split your account across different options and make changes as you get closer to retirement.
Time is of the essence
Put simply, if you are nearing retirement and don’t have a lot of time to absorb potential losses (remembering that you may see two or more negative years in a row), a more stable, lower-risk option is often preferred. You won’t necessarily see huge returns, but you’re less likely to lose money.
Those with plenty of time until they retire, often aim for growth because they have more time to make up any negative years.
But don’t forget, living too long is a risk! This is also called longevity risk. Some new retirees now plan for 25+ years of retirement. This requires a different mindset.
Luckily, all Industry SuperFunds have financial planners who can guide you through the investment choices.