How investment risk could affect your income in retirement and how you can you minimise that risk.
What is investment risk and how will it affect me?
An investment risk is the chance that you won’t get back the amount you originally invest. Share prices go up and down, interest rates vary and inflation presents a risk too.
One of the phrases you’ll hear used by professional advisers is ‘appetite for risk’. It means how comfortable you are, or aren’t, taking risks with your money in the hope it’ll go up in value or increase over time. In retirement, investment risk is most likely to affect you if you decide not to take out an annuity.
By understanding the risks involved with each type of investment, you can work out how you feel about it. We’ll look at the main alternatives to annuities here.
We recommend that you speak to a professional adviser first before you make any investments – particularly those that carry an element of risk.
Banking on it
Simply putting money into the bank still exposes you to the risk that you may run out of money while you’re alive. And even if it’s in a long term deposit account, paying a higher rate of interest than most other bank accounts, this can still be the case.
The returns aren’t likely to be high, all things considered, and you may have to pay tax on the interest earned. In fact, interest rates continue to be at a historic low, and inflation is very likely to erode the value of money held in cash.
Putting it into bricks and mortar
If you take your pension fund as cash, you may be tempted to invest in property – securing an income from ’buy to let’ arrangements. Even here, there are risks involved. We explain more on our buy-to-let page.
Investing in riskier assets
Equities, bonds and cash (but not 'cash in the bank’ sense); these are forms of investment, but each one carries its own type of risk. If you would like to draw money out of your accrued pension savings and put it into investments elsewhere, it’s important to understand the risks you’re taking with one of those types of asset – and how to minimise the risks involved.
These are shares in publically quoted companies – generally, they produce the highest returns but can also carry the greatest risk.
Often referred to as fixed interest investments, these are loans to companies and governments – each one offers you interest on the loan and must be repaid at the end of the term. They’re usually less risky than shares, but some are more secure than others.
This doesn't mean cash in the strictest sense, but money held on deposit. Generally considered as being very secure, but are less likely to increase very much in value over time.
Things like property, commodities, private equity and more specialist investments such as fine wines and stamps – all of which have their attractions, but most of which are less common in terms of investing for retirement income.
So should I avoid investment risks completely?
That would be hard to do. And if you’re too cautious, you may not get exposure to the risks necessary to potentially see bigger gains. It all depends on how you feel about the money you have, and what you want and need that money to achieve during your retirement.
Most people in retirement don’t want to take too much risk with their savings – it’s not surprising really. Retired people don’t have the cushion of a regular salary each month. That’s why it’s important to set your retirement goals well in advance, so that you understand how best to use or invest the money you do have, and which levels of risk you’ll be comfortable with as a result.