When you are thinking about investing in stocks and shares, it’s important to understand risk. Choosing the right risk level for your Stocks and Shares ISA is an important step.
Everyone feels differently about risk. The right level for you depends on your goals, how much time you have, and how comfortable you are with your money going up and down in value.
This guide explains the main risk levels and can help you decided which one might be right for you.
Why does risk matter when investing in a Stocks and Shares ISA?
In investing, risk and potential rewards go hand in hand. Usually, if you take on more risk, you have the potential for bigger returns. If you take less risk, the returns are likely to be smaller.
Stocks and shares ISA risks are about the ups and downs you might face along the way. Risk isn’t good or bad. It’s about choosing the journey that suits you and where you want to go.
Before you start, it’s helpful to understand what a stocks and shares ISA is and how they work.
What are the different risk levels and who are they for?
When you start investing in stocks and shares, risk levels are often grouped into broad categories such as low, medium and high risk. These examples are designed to help explain the relationship between risk and potential returns, although some providers offer a wider range of options.
Each one is designed for different people and types of financial goals.
For anyone new to this, our beginner’s guide to investing may be a helpful place to start.
Here is a simple breakdown of each stocks and shares ISA risk level.
Low risk investing
- Who is it for? People who are cautious with their money or who might need it back soon (for example, in 1 to 5 years). They want to protect their money more than they want to see it grow.
- What is the aim? The aim is to limit investment risk and reduce volatility compared with higher-risk investments, while still offering the potential for growth. However, the value of investments can still fall and you could get back less than you invest.
- These investments may offer growth potential, although returns are not guaranteed and may be lower than those available from higher-risk investments.
- What might it invest in? Low-risk funds often put money into things like government and corporate bonds. A bond is like a loan you give to a government or a large company. In return, they promise to pay you back with interest. They are generally seen as safer than shares.
Medium-risk investing
- Who is it for? People who are happy to accept some ups and downs for the chance of better growth. They usually have a longer time to invest, for example, 5 to 10 years. This gives investors a longer time horizon over which short-term market fluctuations may have less impact.
- What is the aim? To achieve a balance between protecting the money and growing it. It aims to provide greater growth potential than a lower-risk investment while experiencing less volatility than a higher-risk investment.
- What might it invest in? A medium-risk fund usually holds a mix of assets. It might have some safer bonds, but also some shares. A share is a small piece of ownership in a company. The value of shares can go up and down more often than bonds.
High-risk investing
- Who is it for? People who are focused on long-term growth and are comfortable with bigger ups and downs. They should be planning to invest for a long time, usually 10 years or more. This is because there could be large falls in value, and the investment may experience significant fluctuations over time.
- What is the aim? To achieve the highest potential growth over the long term, whilst accepting a greater level of investment risk and volatility
- This approach accepts that there will be significant volatility along the way.
- What might it invest in? High-risk funds mainly invest in shares. These might be shares in startups, companies in developing countries, or specific industries. The investment may have potential for high growth but comes with more risk.
Attitude to risk and capacity for loss
- When deciding how much investment risk to take, it can be helpful to think about both your attitude to risk and your capacity for loss.
- Attitude to risk is how comfortable you are with your investments rising and falling in value.
- Capacity for loss is your ability to withstand a fall in the value of your investments without it having a significant impact on your lifestyle or financial plans.
- Both are important considerations when deciding which risk level may be suitable for you.
How do I choose my risk level?
Choosing your risk level is a personal decision and is about what is right for you. To help you decide, ask yourself these three questions. To help you decide, it may be helpful to ask yourself questions such as these.
How long do you want to invest?
The longer you invest, the more risk you might be able to take. This is because you may be better positioned to manage short-term market fluctuations over a longer investment period.
- Long-term (10+ years): If you are saving for retirement in 20 years, you have a long time. You may feel more comfortable choosing a medium or high-risk level because you have plenty of time to ride out the bumps.
- Medium-term (5-10 years): If you are saving for a child’s university fees in 8 years, a medium-risk level might feel right. It balances growth potential with a moderate level of investment risk.
- Short-term (less than 5 years): If you need the money for a house deposit in 3 years, a low-risk level is often a popular choice. This focuses on limiting investment risk where the money may be needed sooner.
What are your financial goals?
Think about what you are investing for. Are you trying to build a retirement fund, or are trying to achieve greater long-term growth than may be available from cash savings, whilst accepting investment risk??
If your goal is long-term growth and you are comfortable taking more investment risk, you may wish to consider a higher-risk option. Higher-risk investments offer greater growth potential, but their value can rise and fall significantly.If you are more focused on limiting investment risk or may need access to your money sooner, a lower-risk option may be more suitable. Lower-risk investments typically experience less volatility, although their potential returns may also be lower.
How would you feel if your investment lost money?
This is about your comfort with volatility, or the ups and downs your investment might experience.
Imagine you invested £5,000. A few months later, you check its value, and it has dropped to £4,500. How would that make you feel?
- Worried: If this would make you anxious and want to take your money out immediately, a high-risk level is probably not for you. You might be better suited to a low-risk option.
- Concerned but calm: If you would be a bit concerned but understand investments can go up and down, a medium-risk level might be a good fit.
- Not worried: If you see this as a normal part of long-term investing and understand that fluctuations in value are a normal part of investing and remain comfortable staying invested during periods of market volatility.Thinking about investment risk is important. Being honest with yourself can help you choose a level you’re comfortable with.
What impact does risk level have on returns?
Your chosen risk level affects both the potential returns on your investment and the amount of volatility you may experience.
- Lower-risk investments typically experience smaller fluctuations in value, but may offer lower potential returns.
- Medium-risk investments aim to balance growth potential with a moderate level of volatility.
- Higher-risk investments may offer greater growth potential, but their value is likely to experience larger and more frequent fluctuations.
Higher levels of risk do not guarantee higher returns. Investments can fall as well as rise in value, and you could get back less than you invested. Past performance is not a reliable guide to future performance
less than you put in. Past performance is not a reliable guide to future performance.
Can I change my risk level?
The Shepherds Friendly Stocks and Shares ISA offers a number of risk levels, and investors can switch between available funds in accordance with the product terms and conditions.
For example, when you are young and far off retirement, you might choose a high-risk level. As you get closer to retirement, you might want to protect the money you have made. At this point, you could switch to a medium or low-risk level. This changes the investment exposure going forward and may reduce the impact of future market volatility.
If you want to change your risk level, you should check with your ISA provider. They can tell you how to do it.
It’s a good idea to review your investments at least once a year to make sure they still match your goals and how you feel about risk.
What happens if you choose the wrong risk level?
Choosing a risk level that doesn’t match your goals or situation can cause problems.
- If your risk level is too high: You might panic during a market downturn. If your investment value falls sharply, you might sell at the worst possible time, turning a temporary loss into a real one.
- If your risk level is too low: You might miss out on potential growth. A lower-risk investment may offer lower growth potential over the long term than a higher-risk investment, which could affect your ability to achieve your financial goals.The good news is that this can be fixed. If you feel you have made the wrong choice, you can usually change it. This is why regular reviews are so important.
If you are unsure whether an investment is right for your circumstances, you should consider seeking advice from a qualified financial adviser.
Key points to remember
Choosing the right stocks and shares ISA risk level to suit you is a big part of investing. Here are the main things to keep in mind:
- Risk and reward are linked. Higher risk may provide greater growth potential, but also increases the possibility of losses
- It’s a personal choice. Your risk level should be based on your own goals, how long you plan to invest for, and how you feel about ups and downs.
- You can change your mind. Shepherds Friendly offers a range of risk levels and allows eligible investors to switch funds in line with the product terms and conditions.
- Review your investment plan regularly. Look at your risk level at least once a year to make sure it’s still right for you.
- Think long-term. Investing in stocks and shares is generally for the medium to long term, ideally 5 years or more.
The low, medium and high-risk categories used in this guide are simplified examples. In practice, the Shepherds Friendly Stocks and Shares ISA offers five risk levels, allowing investors to choose from a wider range of risk and return characteristics.Our Investment ISA invests in a fixed low to medium risk fund that uses smoothing to offer potential quarterly bonuses. If you’re looking to open an account and need more help, you can contact us.
Important: The value of investments can go down as well as up, and you could get back less than you put in. We do not provide financial advice. If you are unsure, you should seek advice from a qualified financial adviser. Tax treatment depends on individual circumstances and may be subject to change.