Derisking your pension investments
As you move closer to retirement, it makes sense to reduce the exposure of your pension pot to risk.
What are the risks to your pension investments?
If you have a pension, it’s likely that part of it will be invested in the stock market, which means the value of your pension can fluctuate in line with the performance of the markets.
For those in the early days of their pension, this doesn’t matter too much, as over a long period the peaks and troughs of the markets tend to even themselves out.
However, if you are approaching retirement and the markets fall, your pension may not have the time to recover. This means the value of your pension pot could end up significantly less than you had hoped.
The value of your pension pot is critical, as it will determine what you receive in retirement. The larger the pot the better, as it means you can purchase a better annuity or have more income to draw down.
When should your reduce your pension’s exposure to risk?
Timing is important. Over time investing in stocks and shares generally gives you a better return than cash savings or bonds over time. So if you start reducing risk too early, you might miss out on some of that growth.
On the other hand, if you start too late your pension pot might not recover fully from any falls in the stock market.
As a general rule, five to fifteen years from your proposed retirement date is considered the right time to start reducing the risk of your investments.
The value of your pension pot is another consideration. If you have already achieved your pension target, you may wish to reduce risk sooner. If your pension pot is worth less than you had hoped, you may have to leave your investments exposed to more risk a little longer. This is why it is important to get advice to make sure you are on the right track.
How to derisk your pension investments
There is no ‘one-size-fits-all’ approach to reducing risk; some people will have more exposure to risk than others, as well as a higher tolerance for risk. However, in general, it could involve moving your investments from stocks and shares into lower-risk categories like government bonds and cash, or moving your stocks and shares investments into a lower risk based fund.
If you have a personal or company pension, you can move from higher-risk to lower-risk funds. The funds available depend on the type of pension you hold. You financial adviser or PCM will be able to help you with this.
If you have a self-invested personal pension (SIPP) and manage it yourself, you should identify high-risk investments and begin investing in more low-risk areas. Again, you may want to speak to your financial adviser or PCM about this.
So how much exposure to risk should your pension fund have?
The level of risk you should have is dependent on how near to retirement you are; whether you have achieved your pension pot target; and your general attitude to risk whether you are buying and annuity of going for income drawdown.
