MPF investment risk: know systematic vs specific risk before you react

When markets wobble, employees sigh over their MPF balances. The MPFA’s MPF New Knowledge column reminded readers: MPF is long-term investment designed to provide retirement protection; like all investments it carries risk, and members should stay calm through short-term volatility rather than panic and derail their long-term retirement plan. Staying calm starts with telling two kinds of risk apart.

What are systematic and specific risks?

Systematic risk, also called market risk, stems from whole-market factors — interest-rate moves, inflation, economic cycles, war or natural disasters — and affects all portfolios; specific risk hits only individual asset classes or industries, such as rising oil prices hurting airline earnings. The former cannot be escaped; the latter can be diversified away — and that distinction is where risk management begins.

Investing in mainland insurers listed in Hong Kong, for example, carries both: the former tied to the mainland economy and the Hong Kong market as a whole, the latter to the insurer’s internal management, claims experience and investment performance.

How to respond? Diversification is the key

Systematic risk can never be fully eliminated, but proper diversification — avoiding over-concentration in a single market — softens the blow from any one market; spreading money across markets and asset classes of different natures further disperses specific risk. The MPFA sets MPF investment guidelines requiring fund managers to observe the rules and trustees to monitor them, keeping both risks diversified and controlled.

How do MPF mixed asset funds help diversify?

MPF mixed asset funds invest in both equities and bonds, achieving equity-bond diversification within a single fund — the easy option for members who want diversification without the hassle. The guidelines also impose hard caps: securities on non-approved exchanges face special conditions with total trades capped at 10% of a constituent fund’s net asset value; any single investment, and deposits with a single financial institution, are likewise capped at 10% of NAV. Those ceilings are firewalls against risk.

The numbers offer reassurance: since its 2000 launch MPF has weathered multiple financial crises, yet as of June 2011 its annualised internal rate of return stood at 5.1%, above the annualised Composite CPI movement over the same period. Short-term volatility need not sink a long-term plan — for each fund type’s risk profile, see the MPF education hub.

By Benny Lee, Chief Director of Retirement and Intermediary Sales Development, AXA China Region Insurance