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Unpacking investment risk in superannuation

In superannuation, the word ‘risk’ is thrown around more than ‘boujee’ is on TikTok. It’s such a nebulous word, but understanding ‘risk’ is key to selecting your investment mix in super. And it can really impact the size of your account balance at retirement. Let’s unpack how to define investment risk, how to take investment risk, and what to know about it when selecting the right investment mix.

What is investment risk?

Let’s start with the word ‘risk’. One dictionary definition: “the possibility of financial loss”, with synonyms: ‘uncertainty’ and ‘unpredictability’. Investing feels uncertain and unpredictable so, is that ‘investment risk’? The truth is, there’s no perfect definition – but many agree 'permanent capital loss' is the best fit. For example, when WeWork, the co-working office space company, filed for bankruptcy – investors lost almost all money invested, which is definitely ‘investment risk’.

Another common definition is ‘volatility’ - the 'degree of variation' in share prices or 'market ups and downs'. So, if one share price moves up and down more wildly than another, it is more ‘volatile’. Wild share price moves feel uncertain, but they don’t necessarily lead to 'permanent capital loss'. Many companies’ share prices move up and down yet are solid long-term investments.

However, ‘volatility’ can become ‘investment risk’ when you simply lose your nerve and sell out of an investment just because its price has fallen, crystallising a 'permanent capital loss'. This is why advice to ‘stay the course’ is often offered (meaning - avoid the temptation to sell just because the share price has fallen).

Taking investment risk: the risk vs return trade-off

To simplify, assume an investor takes investment risk by only investing in cash or shares. Over time, cash has generated lower returns with lower risk, and shares - higher returns with higher risk. This is the concept of risk and return. An important side note: investing in cash over the long-term comes with another risk – inflation can erode purchasing power, but that’s a separate article. Exhibit 1 shows the long-term performance of cash and shares.

Exhibit 1: Investment returns and risk over 20 years: Shares versus Cash

Source: Bloomberg, UniSuper. Australian Shares is the S&P/ASX 200 Total Return Index1 and Australian Cash is Bloomberg AusBond Bank Bill Index2. Daily return series applied. *Assumes income is reinvested and no fees, costs, taxes are incurred. Dollar figures are rounded to the nearest 100 for simplicity. Past performance is not an indicator of future performance.

In super, an investment mix is delivered through an ‘option’ or ‘fund’. An option labelled as ‘conservative’ generally holds more cash and means lower returns - less investment risk; and ‘high growth’ generally holds more shares and means higher returns - more investment risk. ‘Balanced’ is a mix in the middle. The graph below shows how these typical options have performed over the long-term.

Exhibit 2: Investment Returns and Risk Over 20 Years: Superannuation Options

Source: UniSuper. Conservative is the UniSuper Conservative Option - Accumulation; Balanced is the UniSuper Balanced Option - Accumulation; and High Growth is the UniSuper High Growth Option - Accumulation. Monthly return series applied. *Returns are after fund taxes and investment expenses but before account-based fees. Assumes income is reinvested. Dollar figures are rounded to the nearest 100 for simplicity. Past performance is not an indicator of future performance.

What do you need to know about taking investment risk?

Your investment mix and level of investment risk is unique to you and your circumstances. Here’s a few considerations when selecting the right investment mix in super:

Know your timeframe: Superannuation is a long-term game. A 50-year-old female’s investment time horizon, on average, is more than 30 years! In Exhibit 1, we saw how shares outperformed cash historically, but they can and do go down at times. Remember, a price fall doesn’t necessarily mean 'permanent capital loss' (unless you sell it) and a long timeframe means you can wait for a recovery.

  • Key point: investing in shares and higher risk assets can make sense if you have a long timeframe.

Know your ‘why’ and yourself: Human nature means it’s hard to see your superannuation balance falling, even if only temporarily. But if you know taking investment risk can be necessary to beat inflation and generate higher returns to enjoy a more comfortable retirement, it can be easier to manage uncomfortable emotions, ride out downturns, and stick to the plan. Of course, if you can’t sleep at night worrying about market falls and won’t stay the course, you might need to accept lower returns and less risk.

  • Key point: develop a plan for retirement (it’s never too soon!), understand the right investment mix to achieve your goals, and educate yourself about market ups and downs and the emotions they will bring.

Diversify: if all your super was invested in WeWork, watching it file for bankruptcy would have hurt. But many diversified options in super own hundreds of investments. This diversification means that if one company’s shares become worthless you will suffer a permanent loss of capital, but it won’t wipe you out.

  • Key point: super offers many ‘diversified options’: owning shares, property, infrastructure – all sorts of assets from around the world. Focus on selecting a well-diversified option.

Outsource: everyone knows buying a house is time-consuming. Looking online, inspections, contracts, and settlement. Buying any investment takes time. And constructing a portfolio with hundreds of investments takes a lot of time. In superannuation, there are many well-resourced teams who invest for you; understand risk and take time to do thorough research.

  • Key point: make the very important decision of which ‘diversified option’ is best for you (e.g. growth or balanced) and outsource the rest.

Know your illiquidity levels: illiquid assets are generally those that can’t be readily converted into cash. As super is a long-term game, you probably don’t need to access all your money quickly. But in retirement, when cash withdrawals from your super are made, high levels of illiquid assets can be problematic.

  • Key point: know what level of assets cannot be readily converted to cash. If you need to access a high proportion of your balance in the short to medium term, illiquid levels should be lower.

Know what to expect: unrealistic expectations are an investor’s worse enemy. Everyone knows someone’s friend who made 100% return investing in Bitcoin or a speculative mining stock. To put it in perspective, over the last 20 years, the Australian market earned, on average, about 8% each year, not 100%. And that was not earned in a straight line. Some years the annual return was down over 20%, other years up over 20%.

  • Key point: past performance is not an indicator of future performance but know historical return levels and patterns to help set expectations.

Investment risk feels very uncertain at times, but understanding it helps you pick the right investment mix in super. This mix drives investment returns and the size of your account balance in retirement. And prior to retirement, the right investment mix is one of the most important decisions you’ll make. So, take time to understand whether your current mix is appropriate and get back to living your best ‘boujee’ life.

 

Annika Bradley is an Investment Specialist at UniSuper, a sponsor of Firstlinks. In previous roles Annika worked with Morningstar and QSuper. The information in this article is of a general nature and may include general advice. It doesn’t take into account your personal financial situation, needs or objectives. Before making any investment decision, you should consider your circumstances, the PDS and TMD relevant to the financial product, and whether to consult a qualified financial adviser.

 

1 The S&P/ASX 200 Total Return Index is a product of S&P Dow Jones Indices LLC or its affiliates (“SPDJI”), and has been licensed for use by UniSuper Management Pty Ltd.  S&P®, S&P 500®, US 500, The 500, iBoxx®, iTraxx® and CDX® are trademarks of S&P Global, Inc. or its affiliates (“S&P”); Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC (“Dow Jones”); and these trademarks have been licensed for use by SPDJI and sublicensed for certain purposes by UniSuper Management Pty Ltd.  UniSuper’s products are not sponsored, endorsed, sold or promoted by SPDJI, Dow Jones, S&P, their respective affiliates, and none of such parties make any representation regarding the advisability of investing in such product(s) nor do they have any liability for any errors, omissions, or interruptions of the S&P/ASX 200 Total Return Index.

2 Bloomberg Finance L.P. and its affiliates (collectively, “Bloomberg”) are not affiliated with UniSuper Management Pty Ltd and do not approve, endorse, review, or recommend this report or any information included herein. BLOOMBERG and the Bloomberg AusBond Bank Bill Index are trademarks or service marks of Bloomberg and have been licensed to UniSuper Management Pty Ltd. Bloomberg does not guarantee the timeliness, accurateness, or completeness of any data or information relating to the Bloomberg AusBond Bank Bill Index.

 

18 Comments
SJW
March 10, 2025

Even as we are encouraged to consolidate our super holdings to reduce fee imposts, a risk rarely discussed is the stability of the superannuation entity you have entrusted with your life and old-age savings. Government guarantees on bank deposits do not extend to superannuation holdings invested in say, a balanced mix. If a superannuation fund goes under, as will occur one day, do members lose all their long-saved money?

Dudley
March 10, 2025

https://www.google.com/search?q=What+happens+to+my+super+if+the+super+fund+goes+broke

SJW
March 10, 2025

Thank you

SMSF Trustee
March 11, 2025

The assets are held in a trust. So the fund going under means nothing for your investments. The trust will get moved to a new manager.

The super fund making dud investments (like Dixon advisory) is another matter. In that case you lose your money.

Jim Bonham
March 10, 2025

Thanks for this article, Annika. I very much agree with your comments and those of Peter Vann, Dudley and others
While the two graphs tell a good story, I think it is helpful to look at a real-life issue. So, consider a single homeowner who retired on 1-Jul-2007 aged 65, with $513k in an SMSF (equivalent to $1 million in 2024 dollars, assuming 4% inflation – roughly the growth rate for wages and the age pension).
Suppose the SMSF invests only in 12-month term deposits. On 1-Jul each year, the retiree reinvests interest earned and draws the compulsory minimum from the SMSF.
By 1-Jul-2024, at 82 after 17 years into retirement, he is struggling. His super capital has shrunk to $350k, providing income of $24k per year. Having been on a part age pension for some years, he is about to go onto the full age pension. If he lives another 17 years (to 99) he will cost the government a further half a million, in 2024 dollars.
Contrast this with a retiree in the same circumstances who decides to invest in CBA shares, reinvesting dividends and franking credits, and making minimum withdrawals. By 1-Jul-2024, she has $1.5 million in super, providing income of $105k per year. She is in a financially robust position, without any pension assistance from the public purse.
There’s a lot to be learnt from this simple case study.
Much poorer long-term returns mean that investing in term deposits, rather than in good quality shares, carries a huge risk of a dismal financial retirement. This is the sort of risk that really matters.
The Standard Risk Measure, which specifies how large funds should quantify risk for their members, gives exactly the opposite impression by emphasising the risk of short-term volatility. Thus, term deposits are classified as ‘conservative’ and ‘very low risk’ while CBA shares are ‘very high risk’. It’s a dangerous mischaracterisation, in my view.
It’s also evident from this simple example that at least part of the solution to the much-bewailed longevity risk is to invest for strong financial growth throughout retirement.

Dudley
March 10, 2025

"solution to the much-bewailed longevity risk is to invest for strong financial growth throughout retirement":

When arriving at retirement with inadequate capital to guarantee desired income, risk must be taken (or desired income trimmed).

The alternative is to save more capital before arrival.

The 2% rule, return = inflation, save (DesiredIncome / 2%)
= (100% / 2%)
= 50 times desired income.

Withdraw 2% / y:
= (50 / 2%)
= 100% of desired income / y.

Time to broke, return = inflation:
= 50 / 100%
= 50 years.

Should be plenty left post retirement for age care.

The 4% rule, return = inflation, time to broke is 25 y.

[ Excess withdrawn from super re-invested outside super and taxed 0%. ]

Annika Bradley
March 12, 2025

Thanks for your comments Jim, Dudley and Peter – much appreciated. I couldn’t agree more. Stay tuned for my next article “Three underrated investment risks in retirement” where we unpack why cash is not king long-term. It’s an interesting point on the Standard Risk Measure (SRM) and some funds are trying to rethink how to communicate this to their members. For example, I’ve seen the SRM recently displayed using “short”, “medium” and “long” term time-horizons. This enables something like cash to be classified as “short-term, very low risk”; “long-term, very high risk”.

Dudley
March 13, 2025

"cash is not king long-term":

Cash is the best when the retiree has lots of it, a proportionally small income requirement, a non-infinite time and small bequest requirement. 'No' risk short or full term.
Otherwise risk is forced on the retiree. Then must try to determine which potion is elixir or poison.

Saving tens of multiples of income is rare, hundreds vanishingly rare.

Annika Bradley
March 14, 2025

As promised, here's the link to the follow-up article "Three Underrated Investment Risks In Retirement": https://www.firstlinks.com.au/three-underrated-investment-risks-in-retirement

Disgruntled
March 09, 2025

I turn 58 this year and with preservation age of 60 fast approaching, I am selling down some of my growth oriented shares in my industry superannuation fund to build up on some of the dividend paying ones. These will be used to meet the 4% minimum draw down rules of an account based pension. This rises to 5% at 65. I have used the direct share purchase plan over the last couple of decades to build a healthy superannuation balance.

Time is fast approaching to benefit from that strategy and be able to wake up each morning and be grateful I don't have to get up and go to work any more.

We are dead too long to keep working until we die, in my opinion.

Peter Vann
March 08, 2025

Basically my belief is that the impact of “investment risk” needs to re-framed.

For retirement I believe that overall risk relates to NOT being able to fund your desired retirement expenditure, thus the impact of different investment strategies should be expressed in terms of that objective.

Then one could say
“investment strategy A has a high likelihood of providing a retirement pay cheque at your pre-retirement income”
Or
“investment strategy B has a low likelihood of providing a retirement pay cheque at your pre-retirement income”

Of course bundling investment uncertainty with other uncertainties may, to some industry experts, confuse the issue (see my tips below). But at least I think this is more meaningful and hopefully understandable by many members (particularly after industry word smiths tune it) than the information many members currently obtain.

Now onto “investment risk”, or should I say the impact of investment uncertainty on retirement outcomes.

I think most would agree that the range of asset allocations from 100% cash to, say, 100% equities would have vastly different likelihoods of funding one’s financial retirement goals.

For example: My experience is that for people who expect to contribute (or have contributed) at the mandated levels and desire a retirement expenditure around or a bit less than their pre-retirement income, CASH IS TOO RISKY as they are generally guaranteed to have a significant shortfall in their investments at retirement relative to that required to fund retirement expenditure. Increasing exposure to growth assets such as EQUITIES REDUCES THIS RISK, up to a point. Yes this is contrary to understanding short term risk, but time frames across life are long term.

Some may recall the seminal 1994 paper by Bengen who concluded that equity allocations from 50 to 75% provided the highest likelihood of funding annual retirement expenditure initially at 4% of investments at retirement and then inflating that annually. In other words, so called safe defensive investment strategies were more risky than balanced- growth strategies.


SOME PRACTICAL TECHNICAL TIPS
When undertaking such calculations:

1. it is useful to express all cash flows in today’s dollars and consider real returns and their volatility to grow investments. This essentially takes inflation “out of” the calculation.
2. If the calculation uses mortality tables to determine the likelihood of running out of money before death, then life span uncertainty is explicitly included.
3. Then investment return and volatility is the remaining uncertainty you can adjust via investment strategy.

I observe that many discussions about retirement income strategies over complicate the “risks”.

Dudley
March 09, 2025

"people who expect to contribute (or have contributed) at the mandated levels and desire a retirement expenditure around or a bit less than their pre-retirement income, CASH IS TOO RISKY":

Survivors highly likely to end up on full Age Pension.
Sticking to cash, they would have to contribute more, which would reduce their pre-retirement income, which would increase the time to funds exhaustion when withdrawing at pre-retirement after contribution income.

Portion of gross income as contributions and resulting years of funding at pre-retirement after contribution income (ignoring part / full Age Pension) ...

Contrib 12%, pre-retire = (1 - 12%) = 88% of gross [ 100% ] income:
Retirement fund Future Value;
= FV((1 + (1 - 15%) * 5%) / (1 + 3%) - 1, (67 - 27), (1 - 15%) * -12%, 0)
= 5.21 (times gross [100% ] income)
Number of Periods (years) funded at pre-retire after contribution income;
= NPER((1 + 5%) / (1 + 3%) - 1, 88%, -5.21, 0)
= 6.4 y

Contrib 34.20%;
= 30 y

Contrib 54.25%, pre-retire = (1 - 54.24%) = 45.76%:
Retirement fund Future Value;
= FV((1 + (1 - 15%) * 5%) / (1 + 3%) - 1, (67 - 27), (1 - 15%) * -54.25%, 0)
= 23.56 (times gross [100% ] income)
Number of Periods (years) funded at pre-retire after contribution income;
= NPER((1 + 5%) / (1 + 3%) - 1, 45.76%, -23.56, 0)
= 426.9 y

2024-25: Concessional contribution limit $30,000, non-concessional = 4 x $30,000, Transfer Balance Cap $1,900,000.

Contribute more, increase funded time.

Jeff O
March 10, 2025

Agree Peter - It's about funding retirement income for older Australians - indeed, actually spending!
As it stands, 80% of older Australians oversave and underspend in retirement - and arguably, too defensively positioned portfolios in the deccummulation phase of their lives.

Your super savings and its accumulation is locked up for 30-40 years, and then accessible for retirement income and spending. And then, on average , Australians live another 20 years. So growth growth growth over another 10 years and that will end up as a bequest!

Short term volatility does not matter, but large sustained falls in market values of growth investments in real terms matters a lot for retirement incomes - and the person must continue to work, return to work, save more and/or "enjoy" expect a lower income in retirement - and for some people, access more support from the govt aged pension plus health and aged care concessions.

Defensive assets (low risk/low return) may help to preserve capital and sequencing risk but expect lower retirement income over the medium to longer term!

For some wealthy people with large excessive super and significant assets outside super, compulsory minimum withdrawals meet their retirement income objectives/needs/desires!!

Steve
March 07, 2025

"investing in cash over the long-term comes with another risk – inflation can erode purchasing power, but that’s a separate article". Sorry, I don't think that's a separate article, it is part and parcel of real risk. Cash is certainly not volatile which is why it is deemed safe, in the short term. But after tax you are certain, CERTAIN, to lose money in cash over the long run in real terms. When funds are going to be tied up for many years and no need for income, the losses are real. All the talk about how fees cut your final super balance, what about how much is lost from "safe" investments? Of course as retirement looms and a predictable cash flow is required to pay bills, cash has a valuable role as a buffer to avoid selling assets in down markets, but in early accumulation years it should be avoided. Diversification is the number one safety net at this stage.

Dudley
March 07, 2025

"But after tax you are certain, CERTAIN, to lose money in cash over the long run in real terms.":

After tax, after inflation bank deposit return rate from 1/09/1981 to 1/09/2024 (n=173, R^2=0.993):
Tax 0%, 3.184%
Tax 15%, 2.130%
Tax 30%, 1.083%
Tax 47%, -0.095%

How CERTAIN is the after tax, after inflation share or fund return premium?

Gordon
March 07, 2025

The biggest risk is not paying attention to your super or knowing how it's invested! Time and time again when I discuss the subject wth people (I'm a payroll officer) they have no idea how much super they have, what investment strategy it's in or even how to access their super fund's portal. It really needs to be a short compulsory subject taught in high school ( along with Excel spreadsheeting??)!

Annika Bradley
March 12, 2025

Hear, hear Gordon! Superannuation will be many people’s largest asset and education is key. I wouldn’t mind this school subject extending to how negative compounding works with credit card debt too.

Maurie
March 06, 2025

I liken the concept of risk to a New Years Eve resolution - easy to develop a plan for it but when reality strikes, emotional commitment is tested. In a similar vain, it is easy to have an investment plan to "stay the course" but until you experience a major volatile or uncertain event, you are never quite sure how you will react. For this reason, I am of the opinion that the charts in Exhibits 1 and 2 need to be contextualised. When the "growth" options go through a sizeable correction, it is not just an temporary interruption to the upward trajectory of the trend line on a graph (easy to see with hindsight). There is a generally a sense of foreboding in the air, promulgated by media, which can lead investors to question their plans and run with the social herd. I look forward to Firstlinks maintaining a level of journalistic serenity when we are blessed with the next inevitable crisis in financial markets.

 

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