“People can afford to take more risk with their pension investments than with any other area of their finances. The time horizons for investment are generally long and liquidity is typically not an issue.”
Looking at capacity for loss, Tapper says: “When building a pension pot, the capacity for loss should be considerable, as investments tend to be made monthly with the additional protection of pound-cost averaging cushioning the impact of market downturns.
“However, the factors that protect in the accumulation phase can destroy value in the decumulation phase. The impact of drawdowns in a highly volatile fund can vary, leading to the potential for ‘pound-cost ravaging’, where a fund is depleted by unfortunate timing of withdrawals.
“People should be aware of the potential upside of growth assets as they accumulate pensions and the need to manage volatility as they draw down.”
Ongoing review
Age is an important factor too, emphasises Jon Young, financial planner at WealthFlow: “Attitude to risk and capacity for loss dramatically shift in importance as you age. A young saver has almost 100 per cent capacity for loss; their life is not impacted in any great way by the volatility of investment markets and they have the most valuable asset on their side in the form of time.
“Therefore, for a young saver, their attitude to risk is of far more importance and if they have a low risk appetite, a conversation is needed around possibly stretching the level of risk they are willing to take.
“For someone already retired, or approaching retirement, the inverse is true. Their attitude to risk diminishes in importance, while worrying about the downside and their capacity to handle market volatility increases exponentially. For someone reliant on their drawdown pension income to maintain their standard of living, it would be hard to justify investing in 100 per cent equities or higher risk investments, regardless of their attitude to risk.”
Regular reviews of clients’ attitude to risk, capacity for loss and time horizon are key, says Catriona McCarron, wealth manager at Ascot Wealth Management: “Attitude to risk applies largely to how we invest a client’s pension. Advisers will factor time horizon into these discussions, as naturally an investor's approach to risk will vary, depending on when they need to access their pension.
“Since the drawdown freedoms of 2015, investors are starting to compartmentalise their pensions more and are feeling more comfortable about taking a pro-risk approach with a portion of their pension that they may not need for income for upwards of 10 years. This therefore stretches their time horizon for drawdown needs as well as in the accumulation stage of retirement savings.
“Pension savers should expect to review their attitude to risk, time horizon and capacity for loss annually, to understand how their objectives have changed. Retirees should be aware that capacity for loss is an important aspect of risk management, and that their asset allocation should be tailored to strengthen their capacity for loss – for example, by holding a percentage of their pension in cash or money markets as a short-term, drawdown option during market volatility.”
