With 2018 just around the corner, it is an opportune time for SMSFs to complete their annual required review of their investment strategy.
The new year is always a good time for self-managed super funds (SMSFs) to re-set investment objectives for the following year and further into the future.
In fact it is a requirement that all SMSF trustees consider their investment strategy each year. Here we take a look at the right steps trustees should take to tick this important compliance box.
The process usually starts by considering four factors, explains Greg Einfeld, Director of SMSF specialists, Lime Super.
Before 2018, SMSF trustees should think about:
- How much risk you are prepared to take on
- What investment return you would like to achieve
- Your investment timeframe
- Your liquidity requirements
For example, suppose an SMSF member is 80, has no children and expects to spend no more than the $1.5 million in the fund over the remainder of their life, taking into account inflation, even if the member lives to 100.
“Their biggest risk of running out of money will come from experiencing negative investment returns, so the member may want to invest everything in cash to ensure that they will never run out of money,” Einfeld explains.
In contrast, let’s assume the member only has $1 million in the fund. “By investing in cash in this situation you are almost guaranteed to run out of money, so you will want to accept more risk to achieve higher returns,” he adds.
Einfeld suggests SMSF members who are hoping to leave an inheritance for their children take a longer-term perspective and have a larger allocation to growth assets.
Damian Liddell, a financial adviser with Browell’s Financial Solutions, says the most important thing is to step back and think about your purpose and life goals.
“From there you can consider your financial goals, as the two are intricately linked. Once you’ve done this, you’ll then have a greater understanding of what you want to achieve from your investments. There’s obviously more to investing than simply trying to achieve the highest rate of return,” he says.
Liddell says trustees should consider the time horizon for each goal and the required rate of return to reach each goal.
Other factors are whether you’re investing for income or growth and any trade-offs, for instance should you take on additional risk to achieve the required rate of return or push out the time horizon to meet your goal?
Staying inside the lines
The most common mistake SMSF trustees tend to make when putting together their investment strategy is a desire to have all their SMSF assets perfectly liquid.
“While liquidity is important to an extent, it is very unlikely that you will need all your SMSF assets within the next month, or even the next year. By allocating 10% to 20% of your fund towards illiquid assets you may be able to achieve a higher return,” Einfeld notes.
Another common mistake is underestimating the timeframe of your investments. “Most trustees should invest as though they will live until around age 100. One of two things will happen. You will either live longer than you expect, in which case you should invest with a longer time frame in mind. Or you will die sooner than you expect, in which case you won’t run out of money, so how you invest is of less concern,” he says.
Liddell says one of the most common mistakes he sees SMSF investors make is focusing on what others are doing – for instance trustees are too concerned with other funds’ returns or the type of assets in which other funds are investing.
“A ‘FOMO’ [fear of missing out] situation happens and people start doing what everyone else is doing, when it may not be appropriate for them,” he warns.
Another mistake is being distracted by market noise or media commentary. “The media tends to sensationalise things, particularly market falls. Things are never as good or as bad as they seem. Acting on this noise can lead to investors making terrible decisions at exactly the wrong time.”
The idea is to avoid being distracted by market noise or fall victim to common mistakes. SMSF investors should have a clear sense of what their goals are and remain focused on them at all times.
While every care has been taken in the preparation of this article, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) (AMP Capital) makes no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This article has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this article, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This article is solely for the use of the party to whom it is provided and must not be provided to any other person or entity without the express written consent of AMP Capital.