Managing retirement risk: Finding your sweet spot

Last week we explored the topic of risk and how a better understanding of investment risk can boost your retirement income. We received a lot of follow-on questions on this topic, particularly the Retirement Essentials Market Risk Levels, so today we are sharing how we work with our members to increase their understanding of risk and assist them to explore ways that different settings can help increase income across their retirement journeys.

In a sense, the work our qualified advisers are doing is a Masterclass in understanding retirement income investment. As Alison Squire, Head of Advice at Retirement Essentials notes, our financial wellbeing can be as important as our physical and mental wellbeing. But financial wellbeing is not just dependent on how much money you have. It’s more closely aligned with a sense of security and confidence that you can cover your expenses today, tomorrow and beyond. And that you can do so in a way that ensures you are living a comfortable, rather than constrained, lifestyle. 

Risk profiling incorporates this need for confidence and control through understanding:

• How investing can help you achieve your goals
• Any risks that are associated with different types of investments
• Your own comfort level with different types of risk

This means gaining a thorough understanding of three key things – the what, how and when of successful retirement investing, if you like:

• The what

This refers to your financial goals – to put it simply, what are you investing for?

• The how

This is your risk tolerance – how comfortable you are with different types of investments?

• The when

What is your investment time-frame? How long are you investing for, to achieve how much income at different stages along the way?

Defensive versus growth assets

Next the advisers help you to evaluate your assets (whether in your super fund or outside the super environment). A simple explanation of this evaluation is that there are defensive investments often associated with short-term investment timeframes and there are growth investments which often have a high risk, higher rate of return and are better suited to longer term goals. A strong understanding of this aspect of investing has helped many retirees to recalibrate their settings and ensure they have an eye on the longer term as well as immediate returns.

One such example is Bevan and Anne from last week. This example showed an increase of $89,000 over a five-year period with a move from Market Level 1 investments (highly defensive) to Market Level 5 (more balanced). Many members have asked how these levels are calculated. They were designed by the team of experts at Retirement Essentials etc Here’s a brief summary of the attributes of the different investment settings.

Market Risk Level score

Retirement Essentials classifies risk according to eight possible outcomes or ‘market risk levels’.  Each market risk level represents an asset allocation strategy that has different percentage allocations to defensive and growth assets.  A description of the typical characteristics for each Market Risk Level are detailed as:

Market Risk Level 1 

This typically indicates someone:

• To whom short term security is important. 
• Who is risk averse and not comfortable with negative returns.
• Wants to minimise capital volatility and loss.
• Is more comfortable with significantly high defensive assets and minimum growth assets.

Market Risk Level 2 

This typically indicates someone who:

• Is willing to accept low risk but with some occasional negative returns
• Is comfortable with some balance between risk and return.
• Seeks to keep pace with inflation where possible
• Wants some exposure to growth assets to generate some potential higher long-term returns.

Market Risk Level 3 

This typically indicates someone who:

• Is willing to accept moderate risk. 
• At times, wants to beat inflation with some investment value ups and downs over time.
• Wants more exposure to growth assets to generate potential greater long-term returns.

Market Risk Level 4 

This typically indicates someone who:

• Is willing to accept moderate to higher risk. 
• Would like to their returns to beat inflation
• Understands and is willing to accept some investment value ups and downs over time to provide chances of higher returns in the longer term.
• Is comfortable with more exposure to growth assets to generate potential greater long-term returns.

Market Risk Level 5 

This typically indicates someone who:

• Is willing to accept moderate to higher risk. 
• Wants returns to beat inflation rates over time
• Understands and is willing to accept there will be investment value ups and downs.
• Wants more exposure to growth assets to generate potential greater long-term return

Market Risk Level 6 

This typically indicates someone who:

• Accepts higher risk. 
• Wants their investments to beat inflation
• Understands and is willing to accept negative investment returns at times.
• Is comfortable with higher exposure to growth assets to generate potential greater long-term returns.

Market Risk Level 7 

This typically indicates someone who:

• Wants higher risk exposure to ensure that their investments exceed inflation
• Has significant focus on growth and is comfortable with high volatility of investment returns.
• Is comfortable with greater exposure to growth assets to generate greater long-term returns.

Market Risk Level 8 

This typically indicates someone who:

• Expects to be invested in high risk exposure growth assets. 
• Wants to substantially exceed inflation over the longer term.
• Has significant focus on growth to achieve higher long term returns.

We also asked Alison Squire for her thoughts on why a clear understanding of your own risk tolerance is so important. Here’s what she said:

‘Understanding the difference between defensive and growth assets and the short and long term impacts of both enables you to feel confident and in control that your money is working for you in a way that is right for you.  

Feeling comfortable with how your money is invested also means that you are less likely to panic when the markets move either up or down.  Trying to time the market and constantly move between defensive or growth assets results in capital gains/loss issues, being in the wrong option and missing out on growth or interest. Instead, having the right blend for your comfort level can alleviate these issues and financial stress.’

Those who wish to further explore their own investment mix and how it suits their goals, temperament and time frame will enjoy exploring these questions in a Risk Tolerance consultation. As we demonstrated last week with Bevan and Anne, a little knowledge can make a lot of difference.

How do you view risk?

Do you review your assets from a risk perspective as well as how much they currently return?