Categorising KiwiSaver funds into various buckets is not as simple as assessing how much is exposed to shares

When categorising a KiwiSaver fund into one of the risk profile buckets there are several approaches you can take and each system has its merits.

You can assess the funds on how much of the underlying capital is invested, identify how much is in shares and then apportion the fund to the appropriate risk bucket - you would normally have some pre-defined criteria to work with.

Alternatively you can break the fund down into its investment philosophy and the overall style of the fund; or you can combine several approaches to form an overall assessment of the likely volatility of returns over the long-run.

We have just completed a "library list" of the KiwiSaver funds covered by ourselves, sorted.co.nz and research house Morningstar and this can be found here.

This list of providers and funds outlines how each of the three companies categorises each fund into their respective categories or subcategories. Not all of the funds are covered by every provider as the KiwiSaver managers may decline to participate in some research house league tables but appear in others such as sorted.org.nz which are based around the disclosures made public under the Periodic Disclosure Regime legislation which came into force in July 2013 (effective from October 1).

In compiling the "library list" we found that sometimes the fund name can be misleading and it is important to completely understand what drives the funds performance (asset allocation, investment philosophy etc) and be aware of how the underlying portfolio of securities is made up and where the potential variability in monthly or annual returns may come from.

More formulaic approaches taken by other companies when categorising the KiwiSaver funds into categories such as Defensive, Conservative, Moderate, Balanced, Balanced Growth, Growth or Aggressive ignore some of the more important facets of assessing a funds risk profile and solely rely on the exposure to equities to assess which bucket the fund falls in.

So what do these various categories mean?

In essence the various fund categories represent a risk - return scale. The more risk you take (that is, going from Defensive through to Aggressive) the higher the return you should expect to receive in return for exposing your capital to the chance of loss. The further up the risk scale you go the greater the chances are you may lose capital.

In assigning our risk categories to the full range of KiwiSaver funds, we took these things into consideration:

- the target asset allocation (that is, where the manager plans to invest the funds),
- the current asset allocation,
- the exposure to smaller or mid sized companies,
- liquidity of the underlying investments,
- exposures to derivatives or alternative assets and
- potential for wide variability in monthly and annual returns.

At the "lower risk" end of the spectrum - that is those funds labeled Defensive, Conservative, or Moderate - you should expect some variability in returns including losses; however these would be expected to be few and far between over the life of your investment. There are price risks in bonds and other fixed income components of these funds, although funds that are straight Cash have little. In return for the low risks, you can expect modest returns however.

For Balanced or Balanced Growth type funds there is more volatility in returns as they traditionally have higher exposures to equities or property. Sometimes, some types of bond funds deserve a higher risk assessment too. Although the losses in capital may be experienced more frequently, over the long run your capital value should grow more quickly than the more conservative funds.

For Growth, High Growth and Aggressive funds larger amounts of the capital are exposed to equity markets and investors should expect to see larger volatility in their returns from month to month and year on year. But in the longer run, these funds should deliver the best returns. That's the theory at least - and you should check to see that over the longer term managers are rewarding you for the extra risk you are exposing yourself to. A track record is one way to verify that (although track records are not always indicative of future outcomes).

It is important to understand as much as possible what drives the investment returns so you are comfortable with the risks involved.

Each fund in our database includes much of the information you will need. You need to click through to the fund details to find it.

The name of the fund can sometimes be misleading and categorising a fund based solely on how much it has in equities may not fully reflect the risks involved.

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1 Comments

Good Article.  thank you Craig