We know that not everyone understands how investments work.
Think of this as your Investments 101 class to help you make more informed decisions about your super or pension.
- Lesson 1: Asset classes
- Lesson 2: Risk and return
- Lesson 3: Investment styles
- Lesson 4: Diversification
Lesson 1: Asset classes
All investments, like your super or pension, are made up of different types of assets. An asset is an investment used to gain a return on your money over time.
Asset classes are a group of assets with similar characteristics and behave similarly in the market.
The different types of asset classes are explained in the table below.
| | What is it? | How does the investment work? | What's the risk/return? |
| Cash | May include deposits in a bank, investments in short-term money markets and other similar investments.
| Cash investments, such as your own bank account, don't necessarily earn high returns, but are usually very stable.
| Considered to be the lowest-risk investment because of its limited potential to rise and fall in value over the short term. However, this perceived safety comes at a price – cash investments typically may not earn enough to meet long-term goals like retirement.
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| Fixed interest | Usually a loan to a Government or business with the amount of interest and the length of the loan fixed in advance.
| The investment is used to finance the operations of Governments, organisations or businesses, and is paid back on an agreed date with interest, which is also agreed or 'fixed' before the loan commences.
| Seen as a moderate risk investment. If interest rates change during the term of the loan, there will be capital gains or losses. Fixed interest investments are generally less volatile over the short term than property or shares.
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| Property | An investment in property or buildings, either directly or via property trusts.
| There are two ways that property can provide returns – by earning rental income (revenue) or by increasing in value over time (a capital gain). Property can also decrease in value resulting in a capital loss.
| Considered a moderate to high risk investment. Returns rely on general economic factors like inflation, interest rates and employment, as well as location and quality. While returns are generally higher than cash or fixed interest, the value of property investments is also liable to change suddenly.
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| Alternatives | Almost any non-traditional investment strategy could be classified as an alternative investment.
| They generally aim to achieve a return objective, rather than to outperform a specific sector goal.
| Aim to produce returns in excess of cash over the long term. However its volatility over the long term is generally higher than that of fixed interest.
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| Infrastructure | Generally equity holdings in transportation, communication, sewage, water and utility systems. These can also take the form of social infrastructure assets such as hospitals, schools and aged care facilities.
| Investments in infrastructure can be through direct investments in single assets, listed or unlisted pooled funds and investment through a fund of funds vehicle.
| The investment objective is typically to provide returns of inflation plus 6 – 8% per annum, but with the chance of a return that's lower than Australian and international shares, over a 5 – 10 year term.
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| Private Equity | Involves investments in entities or vehicles that are not listed on a stock exchange. They can be based in Australia and overseas.
| Are usually made to finance one or more stages of a company's growth cycle, ranging from those in early stages of development to more mature businesses seeking capital. Private equity vehicles are used for many purposes including buying out the owners or founders of an existing business or asset.
| The private equity market is less efficient and less regulated than the listed market. This inefficiency creates opportunities for skilled managers to add value. Given the greater risk associated with private equity, a return premium of at least 4 – 5% above listed markets is generally considered necessary.
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| Shares | Part-ownership of a company through holding shares.
| Because shares represent a part of the company, returns vary according to how the company performs. Returns can come in two ways – dividends paid to shareholders (revenue) and the increase in value of the shares (capital gain). Shares can also decrease in value resulting in a capital loss.
| Inflation, interest rates, exchange rates (for international shares) and changes in market conditions will all have an effect on the value of shares, as does the performance of the company itself. Shares are considered the highest risk investment because they may experience significant changes in value. Despite their short-term volatility, shares have traditionally provided higher returns to investors – over the longer term – than all other asset classes. |
Growth assets
- Generally provide relatively higher returns over the longer term with a higher level of risk (increased chance of a negative return and volatility).
- A high proportion of their returns are derived from capital growth. For example, shares and some property.
Defensive assets
- Generally are lower risk (less chance of a negative return), with an expectation of lower returns over the longer term.
- A high proportion of their returns are derived from income (cash) flows. For example, cash and some fixed interest.
What you need to know about asset classes
Generally, all investment portfolios are made up of different asset classes; they could be either one or a combination of 'growth' and defensive' assets that perform differently and offer different levels of risk.
Different asset classes perform well or poorly at different times because they react differently to influences such as economic growth, inflation, interest rates and exchange rate movements. So a positive change for one asset class can have a negative effect on another.
Find out more how each asset class has performed
Lesson 2: Risk and return
Risk and return are related.
- The lower the risk usually the lower the expected return (or the lower the likelihood of a negative return).
- For a higher possible return, you increase the risk and the possibility of a negative return from year to year.
The risk/return profile for each of asset class can be roughly plotted on a graph (below).
It's the mix of these asset classes in an investment portfolio or an investment option that creates the risk/return expectation for that portfolio or option.
HOSTPLUS investment options contain a mix of asset classes, to achieve their different investment objectives.
What you need to know about risk and return
A high risk investment can mean a higher return but a higher possibility of a negative return from year to year.
A low risk investment has a lower possibility of a negative return, but a lower expected return in general.
What's your risk profile? Lesson 3: Investment style
Different asset classes explain some of the different types of investments, but there are also different investment styles that describe the decision process behind how an investment is made.
Below are some of the more common investment styles:
- Passive: Sometimes referred to as 'index management', passive management seeks to achieve investment performance that is equal to an existing investment index or market returns (like the S&P/ASX100, for example). They achieve this by replicating the relevant index. They don't make judgements on future market movements or which investments may grow in value, so the expenses are generally lower than other investment styles.
- Active: This is the opposite of passive management and seeks to achieve returns above an index or other set goal through strategic asset allocation and investment selection. Active management is often paired with growth or value investment styles.
- Enhanced passive: This investment style is between passive and active management; actively managed within the benchmark stocks but the risks are also tightly controlled. Enhanced indexing is essentially risk controlled, active management.
- Growth: A growth manager seeks to achieve capital gains from investments in companies they expect will have future growth in earnings. Typically, growth managers focus less on price-earnings ratio and other ways of assessing the value of an investment, and more on the earnings potential of an investment.
- Value: Value managers are price orientated and seek to buy investments that are temporarily underpriced, and to take profits when they appear overpriced. The price earnings ratio is a key measure.
- Top-down: A form of analysis that begins with forecasting broad economic trends, then assessing the impact on industries and, finally, on individual companies (opposite to bottom-up.)
- Bottom-up: A form of analysis that begins with forecasting returns for individual companies, then moves to industries and finally the economy as a whole (opposite to top-down.)
What you need to know about investment styles
There may be variations in the investment fees, risk levels and the asset classes that investment options or portfolios are made up of depending on their investment style.
Learn more about our investment options Lesson 4: Diversification
Diversification is about spreading your investment risk.
- Diversification across asset classes. Different asset classes react differently to economic and political influences, so a positive change for one asset class can mean a negative effect for another. If a particular asset class performs badly, having your investment in a range of other assets classes may reduce the effects of the under-performing asset class.
- Diversification within asset classes. Investments can be diversified within the asset classes. For example, fixed interest investments may include government bonds, international bonds and inflation-linked bonds, all of which may react differently to influences such as economic growth and interest rates.
- Diversification across investment styles. Different investment styles can also react differently to the economic environment. Investing in options with different investment styles may provide greater performance consistency over time.
What you need to know about diversification
Investing in a range of options and/or asset classes may reduce the risk of your investment portfolio suffering large drops in performance, since one asset class may perform well to balance out a poor performance in another.
The overall effect of diversification is that you may moderate the volatility in your investment and 'smooth' out your returns over time.
Get advice about your investment strategy
Want more?
There's more detail about investing in our Member Guide - Section 5: 'How we invest your money' and our super & investment glossary. You might also want to use Super Adviser to find out which option may be right for you or speak to one of our dedicated financial advisers.