How to Review Your SMSF Investment Strategy

By Jacqueline Hodges

Whether you are investing for short-term growth or preparing for the longer-term, you should make time to regularly review your investment strategy. Your investment strategy helps you in making investment decisions based on your goals, risk tolerance, and future needs. The investment strategy may focus on capital growth and rapid growth, or it may follow a low-risk strategy with a focus on wealth protection. In this article I focus on an Investment Strategy for SMSF Trustees.

Australian Superannuation law states your strategy must consider the following specific factors in regard to the whole circumstances of your fund:

- The risks involved in making, holding and realising, and the likely return from your fund’s investments regarding its objectives and cash flow requirements;

- composition of your fund’s investments including the extent to which they are diverse and the risks of inadequate diversification;

- liquidity of the fund’s assets;

- fund’s ability to pay benefits and other costs it incurs; and

- whether to hold insurance cover for each member of your SMSF.

This is a fairly heavy set of factors to comprehend. So, let’s try breaking them up into something a little less complex.

The risks involved, likely return, objectives and cash flow requirements

Generally your financial adviser will provide you with a client survey with a series of questions to help you determine your risk profile.

Your risk profile is influenced by a number of factors such as your tolerance for volatility, your need for capital guarantee, your need for liquidity and your investment horizon.

Your investment horizon refers to, the timeframe of your investment, that is how long you expect to hold an investment.

A short-term investment horizon is best for those approaching or in retirement. Typically, a short-term investment horizon doesn’t exceed a period of three years.

A medium-term investment horizon is best for less risk-averse investors, somewhere in the middle between low and high risk, who do not need cash reserves for retirement or a large purchase. Typically, a medium-term investment horizon is for a period of three to ten years.

A long-term investment horizon is generally suited to investors willing to take higher risks for higher rewards and who have the time to wait for the payoff or to recoup any losses. Typically, a long-term investment horizon is for a period exceeding ten years.

The likely return refers to the income received or the capital gain from an asset. Income received might include, interest from a bank savings account or rent from an investment property. Capital gains are realised on disposal of an asset, and are the difference between the sale proceeds and the purchase costs.

Your Investment Objectives will typically have three underlying characteristics being:

1. Security

All investments carry some risk and none are completely safe and secure. While, cash may be considered safe, it comes with the opportunity risk. That is the lost opportunity to investment in something else.

2. Income

Investors whose priority is focused on income returns, typically seek fixed-income assets and the guarantee of a steady income return. Generally, this will be a priority for retirees.

3. Growth

Capital growth may occur during the holding of the investment and is generally an asset that holds higher risk than a fixed-income asset. The capital growth is only realised on sale of the investment. It's important to have a clear, precise investment objective. Your Cash Flow Requirements will vary depending on your stage of life and the liabilities of the fund. For example, a fund member who is in retirement will require cash to meet pension payments. Similarly, a fund that has borrowing to purchase real property, will require free cash to make loan repayments. A fund may also require cash to pay ongoing administration costs, such as accounting fees, audit fees, income tax.

Diversification

As an SMSF Trustee you may choose to invest in one asset or asset class or hold a number of different assets or asset classes. Investing in a variety of assets is called a diversified portfolio. Investment risks can be minimised if you invest in a variety of assets. Investment risks that may be minimised include: Return; Volatility; and Liquidity.

Whether you have a diversified investment strategy or not, your investment strategy should document that you considered the risks associated with the investments and if necessary the lack of diversification.

Super laws also require you as the SMSF trustee to invest in accordance with the best interest of all members.

Insurance Needs

Your investment strategy must consider whether to hold insurance cover for each member of your SMSF. Your SMSF can generally provide insurance for a member for an event that is consistent with one of these conditions of release of the member's super: Death, terminal medical condition; permanent incapacity; and temporary incapacity.

Trauma insurance typically pays a lump sum if the insured person is diagnosed with a critical illness or injury as specified in the policy, such as cancer, stroke, coronary bypass or heart attack. While a SMSF can hold trauma insurance, there may be difficulty in accessing the funds, preretirement. We recommend you speak with your financial adviser or review your insurance needs at least annually.

Give Effect to the Investment Strategy

SMSF Trustees must formulate and regularly review their fund’s investment strategy. You must also give effect to an investment strategy that has regard to the whole of the fund’s circumstances. This simply means ensuring your fund’s investments are in accordance with the investment strategy.

When to review the Investment Strategy

The investment strategy should be reviewed regularly to ensure it continues to meet the current and future needs of the members. Certain significant events should also prompt you to review your strategy, such as: a market correction; when a new member joins the fund; and when a member commences receiving a pension.

The ATO recommends that the investment strategy is reviewed at least annually and that the document that you have undertaken this review and any decisions made arising from the review. This could be done in the annual trustee meeting minutes.

SMSF Auditor’s review

When conducting the annual audit, the SMSF auditor will check whether the fund has met the investment strategy requirements under the super laws for the relevant financial year.

The SMSF auditor will check that: the SMSF had an investment strategy in place for the relevant financial year; the fund’s investments were in accordance with that strategy; and the investment strategy had been reviewed during the relevant financial year. Your SMSF Investment Strategy should be a formal document that is full executed, that is signed and dated.

Who can help prepare the Investment Strategy?

If you require assistance with the preparation of an investment strategy, you should consider seeking advice from your licensed financial adviser.

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Jacqueline Hodges is a Chartered Accountant, Registered Tax Agent and SMSF Auditor. She is a Financial Adviser and an authorised representative of Wealth Today. She has a wealth of experience having worked in the financial services sector for most of her career. Jacqueline is a firm believer in continuing education and holds a Bachelor of Commerce (UQ), a Master of Taxation (UM), and a Financial Planning Certificate. She established her own accounting firm servicing individuals and small businesses in 2005 and complemented the business in 2015 with the opening of the financial advice division.

Disclaimer:

The information contained in this article is general in nature and may not be relevant to your personal circumstance and needs. Taxation, legal and other matters referred to in this article are of a general nature only and are based on laws existing at the time and should not be relied upon in place of appropriate professional advice. We recommend that you assess whether the information is appropriate to your needs and if appropriate speak with a financial adviser to discuss your needs, financial situation and investment objectives.

HQ Wealth Pty Ltd as trustee for HQ Wealth (CAR 1238791) and Jacqueline Hodges (AR 1238790) are Authorised Representatives of Wealth Today Pty Ltd (ABN 62 133 393 263), AFSL 340289.