With New Zealand once again having active coronavirus cases in the community, it might be raising feelings of fear or nervousness around what will happen to the New Zealand economy. While this outbreak has not had a strong negative impact on the share market, there’s no denying that now is the time for making sure that you are prepared for whatever the future may bring. In this series we give you answers to things that you can control to get your finances organised and equipped to deal with whatever ups and downs life may bring. Our first two articles were on the importance of an emergency fund and how to get rid of bad debt and this one focuses on your KiwiSaver.

Now is the perfect time to look at your KiwiSaver because whether or not you changed funds during the downturn in markets earlier this year, you likely did look at your KiwiSaver. Now that markets have recovered it’s important to look at what factors you should consider when picking your KiwiSaver investments.

How do I choose a fund?

There’s a reason that picking a fund is our main KiwiSaver preparedness focus and that’s because the fund type that you pick, also known as your asset allocation or risk profile, is the number one driver of your return. Even the best performing conservative fund is not going to earn you as much as a growth fund over the long term, yet if a growth fund is not suitable for you and your circumstances it could lead to a costly mistake.  When choosing a fund for KiwiSaver you first must decide what you are going to use it for: house or retirement. Having a clear vision of your plans, including the timeframe, will clarify what fund you need to be in.

Goal

House

When using your KiwiSaver to purchase a house the biggest concern is, what if there’s a share market crash just when you decide to buy a property? That’s why it’s recommended that if you have a short timeframe then you should be in a more conservative fund. If, however, you have more flexibility on when you plan to purchase, you can consider going up a risk level. Flexibility meaning that if there was a downturn you could either wait until the market has recovered, which can take several years depending on the situation, or accept a less expensive house if your KiwiSaver portfolio balance has gone down.

The most important point to highlight is that if you are in the process of looking for a house, make sure your KiwiSaver portfolio is in the lowest risk fund available. Ideally a cash fund or at least a conservative fund. To illustrate the potential risk, a Wellington couple had to scramble earlier this year after their offer accepted on a house in February but between when they put in the offer and when the house settled, their KiwiSaver balance dropped $15k. They thought they were at an acceptable risk level because they were not fully in growth funds. Unless you are in cash you are at risk of your portfolio going down and potentially jeopardising the purchase. Luckily, they had family who could loan them the difference otherwise they would have lost out on this house after looking for over a year.

Retirement

Retirement is the main purpose of KiwiSaver and continues to be the number one goal of most KiwiSaver members. Once again, first and foremost look at how long until you need the funds, it might be longer than you think.

Retirement isn’t just the point at which you retire but instead covers your entire life after you finish working your primary job. You probably won’t need your full KiwiSaver balance from the day you get your last paycheck, but you will potentially rely on it more than you have in the past. That’s why it’s important to have a good balance of growth assets (which will ensure your money sustains you through your next 20-30 years) and defensive assets (which can fund your living expenses).

Finally, some current retirees might have a KiwiSaver portfolio that does not make up the bulk of their retirement savings, and as such it might sit neglected outside of their financial plan. Where possible, it’s always helpful to keep your finances simple so if you have an investment portfolio why not combine your KiwiSaver with these funds. Or you could sell down your KiwiSaver so you don’t have to draw on your investment portfolio as much. Alternatively make a plan for your KiwiSaver funds, maybe a future trip or to fund university costs for your grandchildren. Then check if your KiwiSaver is invested in the right fund for that timeframe. By having an idea of where you want to use this money, it means that the funds are working towards that goal. 

Risk Tolerance

The second piece to deciding which fund is best for you is being really honest with yourself about your own tolerance for volatility, aka risk. Just because your timeframe suggests you should be in more volatile, growth assets that doesn’t mean that’s actually the best fund for you if it’s keeping you up at night.

During the recent market downturn, a lot of investors saw their plummeting KiwiSaver balances and decided to take action to move them to a more conservative fund and thus locked in those losses. Education can help to understand how markets work but different people are willing to accept different levels of risk in their investments and this should be taken into account. It’s normal to feel uncomfortable and worried when markets are falling, especially as dramatically as they did in February and March, but you need to decide what strategy you can stick with for the long term.

Start by asking yourself what degree of risk are you prepared to take with your investments? At what level of negative return would you feel uncomfortable and take action? Will you be able to sleep at night if your returns are negative -15% as most growth funds were in March?  It’s all well and good to choose a growth fund when you look at the positive returns over the last ten years but there will likely be periods of sustained negative returns, potentially over several years. You must be prepared to handle the difficult short term, for a positive long term. 

For those investors who switched to a more conservative fund during the COVID-19 downturn it might seem like now is a bad time to go into a more growth-oriented option considering that share markets are near their all-time highs. Yet if not now, then when? There’s no way of telling what the stock market will do in the next day, month or year but we can be relatively certain that it will continue to grow in the long term. Think back to your goals and if you will be able to handle the volatility. If you have made a decision, then look to implement it. You can move your KiwiSaver into the appropriate fund in several batches so that if the market does go down in the short term you can buy in at lower prices. There is rarely any benefit to trying to time the market and by making the change you can be sure you are in the best position for your future.

Picking the fund

Deciding how to combine your goal and your risk tolerance can be tricky: pick a fund that is too conservative and you will be missing out on a higher portfolio value in the future, however if you pick a fund that has too many growth assets it could cause you to switch funds at a poor time and leave you worse off than if you had chosen a more moderate option.

You can use a questionnaire or a financial adviser to help you figure out how to balance your personal tolerance for risk with your goals and timeframe. Sorted has a very straightforward Investor Kickstarter section which is a great place to start. 

It might also be helpful to note that you don’t need to pick the perfect fund. Trying to pick a perfect anything is very difficult to do and often leads to no choice being made. It’s more important to make sure that you are in a fund that matches your goals and your personal tolerance for risk rather than waiting to select the elusive “perfect” option. You don’t want to have this hanging over you, causing excess stress, or even worse, to look back and regret having not acted sooner.

When do I review my KiwiSaver?

Once you are in an appropriate KiwiSaver fund, that doesn’t mean you can just forget about it until retirement. Your life will likely change and that’s the time to review your financial situation and make sure that everything is still appropriate for your current life stage. Some examples of changes that indicate it’s time for a review are:

• If you are going to buy a house soon
• If you used your KiwiSaver to buy a house, and now the goal is retirement
• If you are nearing retirement
• If you are in retirement but decide you want to use your KiwiSaver for another goal

Outside of a change in circumstances it’s also good to review your KiwiSaver annually to make sure that it’s still the best fit for you and your circumstances. Perhaps you’re willing to take on more risk now and it’s time to move into a more growth-oriented fund, or vice versa. 

When is the worst time to review your portfolio? In the middle of a steep decline in markets. 

The bottom line

When a crisis, financial or otherwise, hits it’s easy to be blown off course unless you have a solid plan. Taking the time now to clarify your KiwiSaver goals and what fund you will be comfortable in means that when you look to make any changes you can ask yourself if that will bring you closer or further away from achieving your purpose for investing. Having a plan gives you a rock to hold onto in a crisis and can keep you from making a costly mistake.  

To talk to one of our Authorised Financial Advisers call us on 0800 878 783, email [email protected] or visit our website www.trustees.co.nz