Not all pensions are the same. Modern, properly tailored schemes will generally out-perform old, unmanaged plans. And pension performance matters because it affects how much money you will have in your pot when you need it. More money generally means more options and more freedom when it comes to your retirement plans.
What can affect pension performance?
There are three key factors that will affect the performance of your pension:
- How your pension savings are invested
- Whether or not your pension is tailored to you
- How much you pay in charges
Why are my pension savings invested?
Before we even look at how your pension savings are invested, it’s worth quickly covering why they are invested in the first place. The easiest way to look at this is to begin with inflation.
Basically, over time, things become more expensive and this devalues money. Just think what you could have bought at the supermarket with a tenner 20 years ago…and how far it will stretch now.
So, one of the fundamental ideas behind investing your savings is to match or beat inflation. That way any money you put away will, at the very least, have the same purchasing power when you finally need to use it. And if your savings beat inflation over time then you will effectively have more money than you saved.
While inflation goes up and down all the time, a good starting point is to target investment growth of at least 2.5% per year to match inflation. And a tailored and properly-managed pension is one of the best savings tools we have, to at least match and beat inflation. Much more so than a savings account and most ISAs.
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How are my pension savings invested?
There are three main categories of pension investments. We’ve given each one a volatility rating, which refers to how much the value of your savings could go up and down in the short term. Higher volatility means a greater potential for growth but also a greater risk that your savings will not grow, and you could end up getting back less money than you put in.
Stocks and shares
Your savings are used to buy shares in companies listed on one of the many stock exchanges throughout the world. The value of your savings then goes up and down depending on the share price for those companies. Plus, the companies you are invested in will often pay you dividends: essentially a share of the profits which means you investments can still be earning you money even if share prices are not doing so well.
Your savings are invested in bricks and mortar (usually commercial property). The potential growth in your investments comes from a rise in the value of the property or from rental income. For example, your money could be invested in an office block that is rented out. Commercial property investments tend to be less risky than stocks and shares but often riskier than bonds.
When you invest in a bond you are essentially loaning your savings to governments and corporations. Interest is charged as these loans are repaid and this is where you get your investment growth. The interest rate can be fixed or variable and different types of bonds come with different levels of risk. While the returns you get from a bond are potentially lower than with shares or property investments, the associated risks are also lower.
There are other types of investments. Although, when it comes to regulated pensions, it is unlikely that the make up of your investments will stray too far from these three main categories.
Putting all your pension savings into volatile investments potentially increases the returns you could get. But it also significantly increases the risk. And the amount of risk we are prepared to take with investments is very personal. That’s why pension performance is not about aiming for the best returns. Instead, it’s about tailoring your investments to your specific needs.
Why do I need a tailored pension?
Let’s say all your pension savings are invested in high-risk shares. Performance is looking great until suddenly, two months before you are due to retire, the stock market collapses and the value of your pension plummets.
All that great performance means nothing if you have to work for another five years to see if your savings will regain their value. Or, you could choose to retire on a lot less money than you had originally planned for.
This isn’t a nice choice for anyone to have to make and it can be avoided by making sure your pension is properly managed and therefore tailored to your needs, every step of the way.
How do charges affect the performance of my pension?
Charges can have a significant impact on your pension’s performance. For example, let’s say your pension investments were growing, on average, at 6% per year. Paying just 1% higher scheme charges could mean £25,000 in lost growth over 20 years1.
Pensions have lots of moving parts, not to mention the changes we all experience throughout life, as well as the shifting world around us. Taking all this into account there are so many things that could affect the performance of your pension. Things that might seem small at the time but could have a significant impact on the amount of money you have in your pot. That’s why it makes sense to ask a regulated pension specialist to manage your savings for you.