10 Years After the Crash

Investors Still Don’t Understand Investment Risk

And the Financial Services Industry Needs to Do Better.

Investors Don’t Understand Risk

10 years after the global financial crisis, many investors have only experienced bull markets and don’t really understand the amount of risk in their portfolio.

Traditional descriptions of portfolio risk, such as 'cautious' and 'balanced' do not give investors a clear understanding of the amount of investment risk that they are taking.

  • Over three quarters (76%) of British investors manage their savings and investments themselves, but when asked how much a ‘cautious’, ‘balanced’ or ‘aggressive’ fund might lose in a bad year, one in five (20%) did not know.
  • When asked about the risk of loss associated with different risk labels, investors had widely different opinions. For example, while 31% of British investors felt an aggressive portfolio wouldn't lose more than 10%, just over a fifth (21%) thought that these funds could lose more than half of their value during times of turmoil.

British Investors Have Widely Differing Views of the Level of Risk of Each Risk Category.

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1 Figures may not sum to 100% because of rounding.
2 Excluding respondents who answered ‘don’t know’ (n=316)
3 Excluding respondents who answered ‘don’t know’ (n=259)
4 Excluding respondents who answered ‘don’t know’ (n=239)

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Funds Are Riskier Than People Believe

We looked at over £50 billion of assets held in UK funds and found a highly worrying gap between what investors expect and the reality of fund performance.

  • 70% of investors said they don’t expect a cautious portfolio to lose more than 10% in a bad year. In reality, over the past 10 years, the worst cautious/defensive fund lost almost 37% of its value at some point, and the biggest cautious fund in the UK, which manages over £3 billion of investors’ money, lost almost 26% from peak to trough.
  • 71% of investors thought a balanced portfolio shouldn’t lose more than 20% of its value. Our 10-year data shows that the worst balanced fund lost 43% if you entered at the peak and sold at the bottom. On average, the maximum drawdown was -29%, considerably higher than expected.

Cautious and Balanced Funds Both Lost More than Investors Would Have Expected.

chart+9@3x (1)

1 Respondents who answered ‘don’t know’ are not shown and figures may not sum to 100% because of rounding.
2 Period: July 2007 to July 2017. Maximum drawdown between July 2007 and July 2017, so maximum loss of an investor entering and exiting at the worst times.
3 Includes funds labelled ‘defensive’.

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Sticking to Buy & Hold Is Difficult

More than half (51%) of the investors surveyed were unsure of the level of loss they would be willing to accept before selling their investments. Out of those who could define a level of loss that would make them sell, almost half (47%) indicated they would sell at losses of less than 20%.

Only a minority - 17% of all respondents and 35% of those that didn’t reply “don’t know” - wouldn’t sell regardless of loss. This implies that many investors would find it difficult to stick with a buy & hold strategy irrespective of fluctuations in the value of their investments.

Almost Half (47%) of Investors Would Already Sell Their Portfolio If They Experienced a Loss of Less Than 20%.

chart+11-half@3x (1)

1 Figures may not sum to 100% because of rounding
2 Excluding respondents who answered ‘don’t know’ (n=712) from the total respondents who have a pension/savings/investment product (n=1,384)

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There Has to Be a Better Way

The wealth management industry needs to do better. There needs to be a much higher degree of transparency around risk. Understanding risk better won’t deter investors, it will make them more confident of their choices.

At Scalable Capital, we believe there is a better way to invest. We don’t use vague labels when describing portfolio risk. Instead, we use a percentage loss level to give investors a precise understanding of downside exposure in their portfolio. We use Value-at-Risk (VaR), which tells the investor, with 95% certainty, the level of loss that should not be exceeded over the next year. By framing risk in a different way and measuring it with a reliable metric, our clients know how much downside risk they are taking right from the start.