Pension performance expectations

Posted on: 31 May 2019 by Peter McGahan

Do you really understand the health of your pension fund? Peter McGahan questions who is best placed to help you make the most of your future retirement income.

pension pot expectations

We’ve covered the wild differences in performance and risk in investments and pensions before, and the impact that can have on your lifestyle.

One pension provided £91.45 per week, whereas another provided just £407.21, both having had the same initial investment.

Indeed the best performing global fund over the last 20 years would have turned £10,000 into £103,600, whereas Investec’s Global ‘Dynamic’ Fund at the bottom of this pile would have returned £15,271.

Investor apathy has, in my opinion always been the biggest risk. The feeling that it must be a ‘good fund’ because the brand is good, or ‘it’s done well up to now’ goes hand in hand with why so many investors lose so much, without really knowing it.

It’s easy to see how. The bulk of documents and information sent out by financial advisers is simply baffling, and needs a skilled eye and mind to know where to look. That’s not a criticism of the financial adviser, as it’s the Financial Conduct Authority forcing that paperwork.

The unintended consequence of information overload is that you don’t see what is really relevant and when the shocks hit, it’s too late.

For instance, the return above is only a good return if it’s been achieved with the appropriate amount of risk. The same return might look rather different in a downward spiraling market, i.e. it underperforms its peers.

That, of course, is the reason for balancing the risk and return, something you will have a job understanding in the documents sent out to you.

An appropriate pension or investment portfolio should be managed with either, or both, of the above measures: Least risk, maximum return, maximum return with least risk, or least risk with maximum return.

Risk is normally measured by volatility. To explain: If a fund returns 6% per year every year it has zero volatility, whereas a fund that has minus twelve one year and plus eighteen the next has returned 6% overall but with wild volatility. It’s an obvious choice to pick the fund with low volatility and the same return.

For some, the short-term knee quivers of volatility are too much, whereas for others there is no time horizon and they can pay no attention to it, and enjoy the ‘ride’. The key is that an excellent long-term investment can be a disaster for you if that horizon is shortened, as the tighter the timeline the more volatility matters.

Fundamental to this is that correct diversification reduces the volatility more than most people understand. It’s back to the ‘sum of the parts’ argument. In a well-managed portfolio the volatility is less than the average of the volatilities of each of its component parts.

Of absolute importance therefore, is to understand the potential for return and the potential for risk in what you are investing, or that your adviser does.

Take that for granted at your peril. The larger adviser firms have the resources to delve into the behaviours of the above component parts as it’s a significant expense and time constraint.

Some advisers pass the responsibility on to an external manager to manage your money, but that can also be fraught with even more risk.

If an adviser does not have the resources or wherewithal to correctly decide which funds to invest into, why might they have the ability to decide who to appoint as your overall investment manager?

This was borne out by a piece of research we did recently on investment managers or discretionary fund managers.

One particular high profile manager was measured against their monthly consistency, i.e. each month had its own score so we could see if there was a consistency, as opposed to a random boost in one quarter making a five year period look pretty.

We also measured it against volatility and against the maximum downside it had. As it was a passive adventurous fund, the last five years should have shown exceptional performance yet the above assessment, along with other key risk and return measures, had it at bottom of the pile.

Apathy is your greatest risk

About the author

Peter McGahan is Chief Executive of Independent financial adviser Worldwide Financial Planning, which is authorised and regulated by the Financial Conduct Authority.

If you have a question on investments, please call 01872 222422, email [email protected] or visit wwfp.net.

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