Understanding investment objectives

Considered the most risk averse objective, this is best suited to investors who want to take on relatively low levels of risk when they invest their capital.

A capital preservation objective equates to the aim of preventing loss. This is usually targeted by investing in traditionally safer asset types like high quality government bonds, cash and gold.

Yet low risk does not mean no risk:

• In particular, factors like high inflation can have a particularly detrimental effect on strategies focused on capital preservation. This is because when interest is paid on assets like bonds and cash, it is usually a fixed payout. When inflation rises above these interest rates, these assets are effectively worth less than they were before.
• Taking a lower risk approach to investing also typically means moderating your expectations for long-term rewards, as your manager will prioritise protecting your capital rather than taking additional risk in an effort to grow it.

Income investing aims to generate an income stream for investors over the longer term. This is usually achieved by investing in assets which pay income through interest payments (such as government bonds) or via shareholder dividends. When it comes to the latter, a number of stock market sectors – utilities, communication services and consumer staples (which includes foods and household goods) – are especially associated with dividend payments.

Risks associated with income investing:

• A key challenge for fund managers is to create a consistent stream of income over time for their investors, especially if inflation is high (reducing the real-world value of interest payments on bonds or cash) or if shareholder dividend payments are cut in response to company performance or economic events.
• It’s worth noting too that by withdrawing income from their investments, income investors are also likely to miss out on the longer-term benefits of reinvestment and compounding.

Investing for capital growth is a higher risk approach, where more risk is taken on in an effort to build up an investment pot more quickly. The choices of investible assets suitable for a growth profile are wide and could include high growth companies and niche alternative assets like higher risk hedge funds. Highly valued assets which have performed well can continue to benefit from having a competitive advantage or dominating a particular sector. For example, in the early 2020s, the growth in artificial intelligence (AI) has resulted in significant returns in the technology sector. However, past performance is never a reliable guide to future returns, and a change in the stock market fortunes of high growth companies can be painful.

There are two main risks associated with investing for capital growth:

• In the event of a broad market correction, highly valued growth shares will be at risk of a greater downturn than more moderately priced assets.
• Even when they are highly successful, growth style companies tend to have a very limited dividend policy. Many do not pay any dividends to shareholders at all. Focusing solely on the capital appreciation potential of these assets can prove very risky if company news flow becomes disappointing.

It’s increasingly popular to invest with more than purely financial gain in mind. Many investors also want to know that their capital is doing good – or at least not actively doing harm. With this in mind, a growing number of funds include environmental and/or social goals in their objectives. They might invest in companies, sectors and countries which demonstrate a positive influence on environmental and/or societal themes, whilst seeking to avoid investment in activities considered harmful.

Some of the main risks associated with responsible investing relate to the structure of the market for responsible assets:

• The global pool of responsible investment options has grown in recent years, and more products are coming to the market all the time. However, responsible assets still represent a much smaller pool of assets versus the entirety of the global marketplace for investors. Despite significant diversity between responsible assets, there’s no denying that fishing in this smaller pool reduces the options for investment managers.
• Businesses focused on sustainability may be impacted by factors less likely to hinder other areas of global financial markets, such as political agendas and changes to environmental regulations and incentives.
• As a relatively younger area of the market, responsible assets are typically small or mid-sized in scale, meaning that in periods when the share prices of larger companies dominate the market, they are likely to be left behind in performance terms.