Troy Burns Updated Dec 19, 2022
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One of the main attractions of an SMSF when compared to a traditional super fund or industry super fund is the wide range of investment options available for you to choose from within the SMSF.
In almost all SMSFs, you can invest in traditional investments like shares, property, government or corporate bonds, options, warrants, derivatives and physical assets like precious metals, art and collectables. If that sounds too complicated then you can choose a financial advisor or low-cost Robo-advisor to do the heavy lifting for you.
The plethora of investment options in an SMSF makes it an attractive choice for your retirement savings, but with choice comes added responsibility, cost and effort which make life harder for you as an investor. Below are four common questions asked before you choose investments for your SMSF and some other important considerations.
Before you go diving in to the markets, head first, understanding your tolerance for risk, and your objective for return is probably the most important consideration to make. Things like how long the funds will be invested otherwise known as your investment time horizon is a big one.
When we look at a long-term chart of the stock market, we can see that markets usually trend in one direction, up, but between these periods of seemingly perpetual growth are often periods of decline and sideways price action. Generally speaking, the higher the risk taken, the higher the potential return, but it goes both ways. You will want to put some capital at risk but not so much that you run for the exits when the market turns south.
One of the most basic and most commonly cited rule of thumb asset allocation principles is to start with a number of 100 and subtract your age. So for a 55-year-old, 45% of the portfolio should be allocated in shares with the remaining funds invested in high-quality income securities like bonds, hybrids or income ETFs. For those with a higher tolerance towards risk, some may modify the starting number to 110 or 120, minus your age, but this comes down to personal preference and risk appetite.
The main reason this method focuses on age is that generally speaking, investors can afford to take more risk when they are younger and will often taper this risk-taking down closer to retirement and focus on capital preservation rather than appreciation. One can only imagine the stress from a market correction like the 2008 financial crisis close to your planned retirement date.
How you allocate your investments is closely tied with how much risk you take as well as your expected investment returns. When you decide on your asset allocation, you are essentially spreading your capital across different categories of investments called asset classes, based on your risk profile, investment goals, and investment time horizon.
The term asset class refers to investments of a similar nature that are grouped together. Shares, fixed income, property, currencies and commodities are all examples of asset classes and each will have very different risk levels. How you allocate capital to each will depend on your investment time horizon and your view on how each will perform in the near term.
When shopping for investments, most of us will think to fill the portfolio with individual companies and fixed income investments, but there might be another approach worth considering. Diversification comes in many shapes and sizes, and one common way to get diversification and decent long term performance is with a portfolio of ETFs or index funds.
When you purchase an ETF or an index fund you are receiving a selection of different assets in one asset. An ASX 200 index fund, for example, holds a selection of the top 200 shares listed on the ASX 200 which is a selection of the largest companies in Australia by market capitalisation.
Most investment managers will tend to allocate more of their exposure to shares towards the larger companies or ETFs due to liquidity requirements. Other investments like international funds or emerging markets might receive a slightly smaller slice of the pie and even less towards more illiquid investments like the small-cap or micro-cap funds.
It’s worth noting that any international investment carries the potential for currency risk, which refers to the currency of where the investment is located appreciating or depreciating throughout the time of your investment. A 5% change in a given currency has the potential to make or break your investment strategy in a heartbeat, so it’s well worth considering.
Outsourcing the investment decisions to the professional is often a prudent approach for many SMSF trustees. Investment markets and portfolios can change over time and without your ear to the ground; you might miss a valuable opportunity to buy, sell or rebalance the portfolio when the time comes.
There are two common ways to approach outsourcing the investment management of your SMSF: a full-service financial advisor can offer everything from investment management, financial planning and accounting services all in one place.
Another option worth considering is an IMA (individually managed account) investment manager who has control over the direct investing within your SMSF. Some examples of an IMA investment manager include company ABC and company XYZ. Both of these professional investment management providers live and breathe the markets, so you don’t have to.
