posted in: Building Wealth

Growth vs Defensive Investments Explained

Growth Investments vs Defensive Investments

When it comes to our appetite for risk, everyone is different.

Some of us are comfortable investing in higher risk assets like art or cryptocurrencies, while some of us would prefer to keep our money in our bank account rather than risk losing anything at all.

But the reality is, often being too conservative as an investor can have a seriously negative impact on your overall long term wealth.

While it may be tempting to “play it safe” with conservative investments, this approach can significantly hinder your long-term wealth accumulation, especially in the context of retirement planning. 

Below, we cover why embracing growth assets when investing is essential for achieving your financial goals.

But first, we always recommend speaking with a financial advisor in Sydney to help you understand your risk profile and create a strategy that suits your individual circumstances.

Understanding growth vs. defensive investments

First things first, what’s the difference between growth investments versus defensive (or conservative) investments?

Growth investments aim for capital appreciation.

They typically carry higher risk but offer the potential for higher returns over time. Examples include shares and property.

Defensive investments prioritise capital preservation.

They generally offer lower returns but are less volatile. Examples include bonds, fixed-term deposits, and cash.

The pitfalls of an overly conservative approach

While a degree of conservatism is prudent, an excessively conservative investment strategy can lead to several significant drawbacks:

1. Erosion of purchasing power: Inflation steadily erodes the value of money over time. If your investments don’t outpace inflation, your wealth effectively shrinks.

2. Missed opportunities: Conservative investments may fail to capture the potential gains offered by growth assets, especially over the long-term.

3. Insufficient retirement savings: A conservative approach may leave you with a smaller nest egg than you need to maintain your desired lifestyle in retirement.

The power of long-term growth

History consistently demonstrates that growth assets like shares and property outperform defensive assets over the long-term.

While they experience short and medium term fluctuations, their overall long term trajectory is upward.

This long-term growth is crucial for building wealth, particularly for retirement.

Superannuation is a prime example where growth investments play a vital role.

While many Australians perceive their super as a conservative investment, most default funds include exposure to growth assets like shares.

This is because a well-diversified superannuation portfolio needs growth to achieve its long-term objectives.

Growth vs. defensive investments: Hypothetical scenarios 

Let’s examine a couple of scenarios which explore the different outcomes from a defensive investment strategy versus a growth investment strategy at age 30 and 40.

A 30 year old with a starting superannuation balance of $51,137*, leveraging a high growth investment strategy with a higher allocation to growth assets like shares will end up with a super balance of $3,109,270 by the age of 65.

If they deploy a conservative investment strategy on the other hand with a higher allocation to defensive assets like bonds, then they will end up with a super balance of $1,313,637 at age 65. That’s nearly a $1.8 million difference.

A 40 year old with a starting superannuation balance of $123,000* can miss out on $877,203 by the age of 65, when utilising a conservative investment strategy versus a high growth strategy.

If they employ a high growth investment strategy they could end up with $1,773,019 by age 65.

*These calculations are based on the below assumptions.

N.B: Returns sourced from Australian Super

Whilst the high growth strategy will be a lot more volatile and susceptible to market fluctuations, this example clearly demonstrates the opportunity costs of taking a conservative approach to investing, especially at a young age.

Real-life example: The impact of strategic investment

Let’s look at a real-life example to illustrate the point further. 

A pre-retirement couple in their mid 40s with two kids in private school were assessing their options for retirement. 

They had no plans to sell or move from their family home in the next 20 years.

They were concerned that simply paying down their mortgage would leave them short in retirement and it was causing anxiety and arguments in their relationship. 

They valued private schooling for their two kids, holidays and eating out with their friends.

They didn’t have huge amounts of disposable income and felt locked in the rat race of working, driving kids to sport and endless expenses.

Modelling revealed that without any changes or new investments, they were going to be considerably short in retirement in 15 years, which would mean a lifestyle downgrade once they stopped working. 

They opted to diversify into property and shares, which has increased their net wealth by $685,000 within just five years.

Without intervention, their retirement balance (projected income versus expenses at age 60) would be in deficit by $24,000 p.a. in 15 years.

That would require a significant lifestyle downgrade.

In the scenario below in which the clients took a proactive approach to investing, their investments would ensure their retirement balance would be in surplus by $53,500 p.a.

Key takeaways

In the realm of investing, playing it “too safe” can be a risky strategy especially when it comes to long term investing within superannuation.

While conservative investments like cash and bonds have their place, a well-structured financial plan requires a strategic allocation to growth assets like shares and property.

The key is to have an investment portfolio that is reflective of your short, medium and long term investment objectives.

It’s also important to start early. The earlier you start investing, the more time your investments have to grow.

Time is your most valuable asset as it will ensure long-term investments pay off significantly. 

Remember, without strategic investment, more often than not it won’t be possible to achieve your longer term financial goals.

Working with our Sydney financial advisors to model your situation and develop a comprehensive strategy is the best way to secure your financial future. 

Interested in developing a growth investment strategy to achieve your financial goals? Contact the team at Montara Wealth for an obligation free chat today.

Disclaimer

The information in this article is general in nature and does not constitute personal advice.

For some individuals changing to a more conservative investment strategy could be the best move based on their personal circumstances.

We recommend you speak to the Montara Wealth team or your trusted advisor before undertaking any investment changes.