Investment asset classes have different growth characteristics

Investment asset classes each have different income and growth characteristics. As a general rule, the greater potential for growth, the increased volatility with the investment. Shares and Property have historically provided the highest levels of growth but, also bare the greatest risk. Conversely, cash and fixed interest are far safer, but of course have a much lower potential return.

When building an investment portfolio, we have a combination of all of these asset classes in a proportion that suits the individual’s appetite for risk. The less risk the investor is prepared to take, the higher exposure to defensive assets of cash and fixed interest in the portfolio.

One of the key factors in deciding the level of risk we are prepared to accept is the length of time we are prepared to invest the money. The longer the investment time frame, the greater volatility we will be willing to consider.

The reason for this is statistical. The longer the investment is in place, the closer the long-term performance is likely to be to the expected outcome. The wider the range of possibilities, the greater the sample size required to return a predictable result. Financial planning is all about creating predictable outcomes as best we can.

Financial planners have a minimum investment horizon required for each level of investment risk. An investment time frame of less than 3 years is most likely to contain no growth assets. A minimum of 3 years is required to invest 30% in growth assets, 6 years to invest 70% in growth and 10 years to have all assets invested in growth.

These are the maximum levels of risk.  An investor may have a long investment horizon but have a conservative outlook or will be in a position to achieve their goals without increasing investment risk.

With a long term investment like Superannuation it is worthwhile investigating an aggressive investment strategy. Although you will definitely experience some negative years, you will also experience years well above average. In the event that you have a bad year or two, you will have plenty of time to recover, and the increased exposure to growth assets will, in the long term, provide you with a higher average return than a more conservative option.

In the event that you do take a more aggressive approach to your investment, you need to be prepared for the inevitable negative years.  These years will come, and you should accept this as part of the investment and stick to your long-term strategy.