When you save for a pension, you should regularly review how it’s invested. And as you get older, you should probably change your investment strategy to reduce risk as retirement draws closer.
Do you need to make investment choices?
Personal, stakeholder and defined contribution schemes
If you have a personal or stakeholder pension or money in a workplace defined contribution scheme, you’ll normally have to decide where your pension money is invested.
Pension providers often try to make your decision as simple as possible.
They usually offer a range of funds, so you can choose from several broad investment strategies that are suitable for most people.
If you don’t make an active choice yourself, the pension provider will invest your pension in a ‘default’ fund that’s designed to suit as broad a range of people as possible.
Defined benefit schemes
If you’re a member of a defined benefit scheme in your workplace, you’re not responsible for the investment decisions.
Your scheme promises your retirement income, so it’s your employer who takes the investment decisions and risks needed to reach that target.
But you might still need to make pension investment decisions at some point.
For example, if you decide to boost your pension savings by making additional contributions to a defined contribution scheme.
What are the main investment options?
Most defined contribution pension plans offer a range of investment funds that are designed to invest your money in different ways over the years until your retirement.
You need to choose a fund (or funds) that offers the broad investment strategy you want.
All the details – such as the choice of the specific assets that the fund invests in – are handled by the fund’s investment experts.
Investment funds usually invest in several key asset categories, including shares, bonds and cash.
You’ll probably be offered a choice of funds that:
- Specialise in specific assets – eg a fund focusing on shares in European companies
- Invest in a mix of different assets – eg a fund investing in both global shares and government bonds
Most people choose to invest their pension in the second type of fund, because spreading (‘diversifying’) your investments is a good way of managing risk.
You could also diversify your investments in this way yourself, by dividing your money between a range of specialised funds. But this requires more time and financial knowledge.
Over the long term, shares have tended to perform better than bonds or cash, which are lower-risk investments.
Many pension plans offer a ‘lifestyle’ fund, which automatically shifts the balance of your investments towards less risky assets (such as bonds and cash) as you near retirement.
This shift will be handled by the fund’s investment experts. ‘Target date’ funds work in a similar way.
If you have a large pension pot, you can take greater control of your pension and access a wider range of assets by using a SIPP (self-invested personal pension).
This is only suitable for experienced investors who are comfortable with taking investment decisions.
Key things to consider when choosing
There’s no need to over-complicate your investment decisions.
Keep these things in mind and you should be off to a good start.
Invest for the long-term
Don’t shy away from investing in shares.
You want your investments to grow, and that’s difficult to achieve if you only choose lower-risk investments such as cash or bonds.
Shares have historically performed better than cash or bonds over the longer term, but be aware that there are no guarantees they’ll always do that.
Don’t put all your eggs in one basket. If you choose a basic managed fund this should be well diversified already, so you might not need to spread your money further.
But if you choose highly specialised funds, you’ll probably want to pick a few different ones to spread your risk.
Fees and charges
Check how much the different funds on offer charge – only choose funds that have competitive charges.
Review your investment choices every year
You might not have to make any changes, but you should check your investment choices every year to make sure you’re still comfortable with the level of risk and that charges haven’t gone up.
This is even more important as you get closer to retirement.
At this point, you’ll want to make sure the strategy matches what you intend to do.
- If you want to use your pension pot to buy a guaranteed income from an annuity, you might want to move to lower-risk investments to help protect the fund you’ve built up from any shocks in stock market performance.
- If you want to use your pension pot for a flexible income with income drawdown, you might want to set a strategy to meet your ongoing long-term investment needs.
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