In this guide
No matter whether you’re about to start your first super pension or you’re years down the road, selecting and maintaining the right mix of investments is essential.
A misstep could mean less retirement income, running out of savings too quickly or more risk than you’re comfortable with.
In a typical situation, up to 60% of the money you withdraw from super during your retirement comes from investment earnings you receive after stopping work. Choosing your investments wisely can stretch each dollar you saved for retirement further.
Follow our simple guide to choosing and regularly reviewing the investments supporting your pension account.
Balancing growth potential and risk
When you’re no longer working or planning to step away soon, the knowledge that you won’t be earning income to add to your retirement savings if markets take a dip can be unsettling. You may be tempted to be more conservative with your super investments to protect your savings (and your sanity) from a crash.
However, market volatility is not the only risk that’s important to an investment decision. Retirees who flee too far towards the safety of defensive assets like cash and fixed interest are more exposed to the chance that their savings won’t grow enough to support their retirement income needs or to keep up with the increasing cost of living (inflation).
Including growth assets (shares, property and alternatives) in your investment portfolio improves your chances of better long-term returns, but increases volatility along the way.
The first step when choosing appropriate investments for your pension is to determine the level of risk that is appropriate for you, based on your timeframe for investing and how well you can tolerate volatility in your returns.
Product selection
After getting to grips with your risk profile, you should have a better understanding of the proportion of your savings you’re comfortable allocating to growth assets.
Before making final investment decisions, it’s important to consider the type(s) of pension you have chosen (or will choose) to invest your superannuation in.
Simple account-based pensions
The most common type of super pension held by Australians is a simple account-based pension. These accounts allow you to choose how your entire account balance is invested and which investments should be sold to provide for your pension payments (if you have selected more than one investment option).
If you will be using a simple account-based pension for all your super, you can choose a mix of investment options that will suit your risk profile and consider a bucket strategy to avoid selling growth assets to finance your withdrawals.
Lifetime pensions (other than defined benefits)
Another option is to use some of your super to purchase a lifetime pension. These products guarantee to provide income for life and can result in a higher rate of Age Pension, depending on your circumstances.
Some of these products are investment-linked, providing income that varies with the return of the underlying investments, while others have annual income payments indexed to increase with inflation. In an investment-linked product, you may have the option to choose an investment option, or there may be a single pool of assets managed by the provider with no room for individual choice.
Most investment-linked lifetime products don’t have an account balance. Instead, your chosen investment, or the return of the provider’s pool of assets, determines how your annual pension changes from one year to the next. However, there is at least one lifetime product available that is account-based, allowing you to see and invest your balance as you choose.
If you will be using a lifetime pension for part of your super savings, you should consider the assets it exposes you to when ensuring your overall allocation suits your risk profile.
Defined benefit pensions
Some super funds pay a guaranteed pension for life instead of, or in addition to, an account balance at retirement. These defined benefit pensions are usually annually indexed to keep pace with inflation and often provide continuing income to a spouse after the member dies.
If you’re lucky enough to be entitled to a defined benefit pension, that benefit should be considered when you’re choosing a suitable asset allocation for any remaining savings you will be investing in super pensions.
What investment options do pension products offer?
After choosing the pension product(s) you will use and working out the appropriate asset allocation in any product you’ve selected that allows you to choose how your money is invested, the next step is selecting investment options from your fund’s menu that fit that allocation.
One factor when choosing investment options is deciding whether you would prefer an active or passive investment approach.
Active management means the fund’s investment managers choose investments based on their research and expertise. Indexed options, also known as passive investments, track the allocation of an underlying index, rather than only the investments that managers have selected. For example, the Australian shares portion of an indexed balanced fund may track the ASX 200.
Indexed options have lower investment fees than actively managed funds. Advocates for active management say that it can generate higher returns to compensate for the additional cost, but there’s not much evidence to support this claim.
Super funds generally offer three main types of investment options when you start a pension:
- Pre-mixed options
- Single sector options
- Direct investments.
If you want to choose indexed options, look for the keywords ‘indexed’ or ‘passive’ in the investment option’s name. Not all super funds offer indexed options in all the categories.
1. Pre-mixed options
Pre-mixed options are invested in a diversified combination of assets such as shares, property, infrastructure, fixed interest and cash.
These options are usually categorised by the proportion allocated to growth assets and labelled as High Growth, Growth, Balanced or Conservative/Capital Stable.
Your fund may also offer some pre-mixed options with a sustainable investment focus.
If you don’t choose an investment option (or options) for your pension, your fund will commonly use one of its actively managed pre-mixed options as the default.
2. Single sector options
These options reflect a single asset class such as Australian or international shares, global property, global fixed interest and cash. If your fund doesn’t offer indexed pre-mixed options, you may find they do provide indexed single-sector choices.
You can mix single-sector options together to reach your target asset allocation and choose which of them to withdraw your pension payments from.
It’s also common for retirees using a bucket strategy to choose a pre-mixed option for most of their account balance, but reserve some in the cash single sector option for their pension payments.
3. Direct investments
These investment options offer a selection of direct investments to choose from, including direct shares, exchange-traded funds (ETFs), term deposits and listed investment companies (LICs). If you owned direct investments through your super fund prior to retirement, you may be able to start your super pension without having to sell and repurchase your investments when you retire.
Direct investment options are generally only suitable if you have experience investing your own assets and want to spend the time required to successfully manage your own pension portfolio.
Regular review/rebalancing
Investing for retirement is not ‘set and forget’, particularly when you have chosen more than one investment option or retirement income product.
When you’ve got multiple investments, the weighting of each one will change over time as investment returns accumulate and you make withdrawals.
Your attitude to risk may also change as you age, and so does your timeframe for future investing.
Once your pension accounts are set up, take the time to review your strategy at least once a year and make any adjustments as needed.
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