Understanding different fund types
From single-sector funds to multi-manager funds and passive index funds, the investment choice available to members may seem both overwhelming and confusing.
Investments can help grow your money. However, there’s not only a risk associated with the various investment types (we’ll get into that below), but there’s also a risk you could lose money, as well as the possibility that your investments won’t achieve your financial goals within the timeframe you set out. Generally speaking, the higher the risk, the greater the potential return over the long term.
With this in mind, it can help to first understand what type of investor you are – and recognise that this may change as your life changes or as you get closer to retirement. To work out your risk profile, think about how you feel about short-term fluctuations in the value of your investments. Would they keep you awake at night, or would you be comfortable riding them out?
When time is on your side, you may decide you can afford to take some calculated risks with your investment portfolio. That might place you at the ‘moderate’, ‘growth’ or even ‘high growth’ end of the risk spectrum. But if you’re planning to retire or scale back on paid work soon, you may adopt a more ‘defensive’ or ‘conservative’ investment approach to protect the value of the capital you’ve built up. A market correction close to retirement could have a disproportionate impact on a portfolio – so it’s worth considering two risk profiles: one for superannuation and one for other investments.
Cash is considered one of the safest investments. But in exchange for its safety, it also generally offers the lowest potential return. Investing in a cash option can provide stable, low-risk income – usually through interest payments. It may be helpful to have some cash available at short notice – for example, to take advantage of an investment opportunity or to cover any emergency expenses that might arise – and cash investments can have a short timeframe (depending on the terms of your option).
Investments in government or corporate bonds, mortgages or hybrid securities are a loan by you (the investor) to the issuer. In return, the issuer pays you a regular interest payment over a fixed term. Depending on the kind of investment, they can also repay the capital you initially loaned them at the end of the term. Holders of corporate bonds are also paid before shareholder dividends – offering an additional degree of income certainty in the event that a company is in financial trouble and at risk of defaulting on their payments to investors. Fixed interest investments can be held for a number of years.
You can invest in property and infrastructure via the share market – including commercial, retail and industrial property, or transport, utilities and telecommunications infrastructure. Investing in property and infrastructure securities can help you access these investments without needing the often large sums of capital required for owning them directly. The potential returns for these investments can be medium to high, but you may need to hold them for a few years.
Shares (also known as equities) give you part-ownership of an Australian or international company. Your potential returns include capital growth (or loss) and income through dividends. Shares are considered medium to high-growth assets whose values tend to trend higher over time. However, they generally carry a higher level of risk than other asset classes, meaning you may need to hold them for longer than other assets to ride out market fluctuations and generate higher returns.
All investments perform differently when financial markets change. Diversification is when you spread your investments across a range of assets to help reduce risk in your portfolio – that is, to avoid putting all your eggs in one basket. Diversification won’t fully protect you against loss, but it can help reduce your risk of capital loss if there is a market downturn – balancing out your returns if some investments underperform others in a given environment. It can also take time to sell certain investments, so it may be smart to have short-term and long-term investments within your portfolio.
Investing in a managed fund can give you access to different shares, bonds and other assets – with a focus on a specific investment objective. Pooling your money with a group of investors lets you invest in opportunities that would otherwise be out of reach, and can also help to diversify your risk. There are many different types of managed funds with different risk profiles and investment approaches, including single-sector or multi-sector funds and index funds. However, you may also have individual investments in different asset classes – for example, shares in a company that you’ve accessed directly from the share market rather than within a fund.
It can be important to keep an eye on market changes and your investments to make sure your portfolio is balanced and aligned with your risk profile and the needs you have for your particular life stage.
Before investing or making any changes to your investments, it may be helpful to get advice from a financial adviser as selling assets may result in a tax liability. Drawing from their industry expertise, they can also offer an independent perspective on your investment goals and risk profile.
Colonial First State Investments Limited ABN 98 002 348 352, AFSL 232468 (CFSIL) is the issuer of super, pension and investment products. This document may include general advice but does not take into account your individual objectives, financial situation or needs. You should read the relevant Product Disclosure Statement (PDS) and Financial Services Guide (FSG) carefully, assess whether the information is appropriate for you, and consider talking to a financial adviser before making an investment decision. The PDS and FSG can be obtained from www.cfs.com.au or by calling us on 13 13 36. Past performance is no indication of future performance.