Understanding Risk

by D. Ray Lewis

When the Board of Retirement accumulated the first $100 in assets, a church bond was purchased. As assets grew, more church bonds were acquired. As assets began to accumulate, the first Free Will Baptist Church Loan Program was begun. Through the years, many churches and denominational agencies benefitted from these loans with their competitive interest rates.

But when assets continued to grow, and interest rates began to decline, in order to meet our fiduciary responsibility to participants by providing the best returns possible on their investments, it became necessary to seek other investment opportunities.

In 1986, the Board made the bold decision to enter the world of investing in the stock market. After a careful search, three competent investment management firms were hired to handle our investments.

What did this change in investment strategy mean for participants? In simple terms, it added volatility that was not there before. When our funds were invested 100% in first mortgage loans, even if we had to foreclose on a loan (which we never did), the Board would still have held title to the property, and foreclosures would have had no effect on account balances.

Shifting investments into the stock market caused participant account balances to fluctuate as market values go up or down. Today, four investment options are available to participants in the Free Will Baptist Retirement Savings Plan. The options range from very conservative to very aggressive. The less a person has in the market, the less risk. The larger market investment means more risk.

• The Pro-Mix Conservative Fund is designed for participants whose retirement date is within 0-5 years. Investment in the stock market can range from 5%-35% of the total portfolio with a target of 20%.
  
  

• The Pro-Mix Moderate Fund is designed for participants within 3-10 years of retirement. Investment in the stock market can range from 20%-60% with a target point of 40%.
  
  

• The Default Fund is the original option offered since 1986 when the Board entered the world of market investing. It is designed for participants within 7-20 years of retirement. Investment in the stock market can range from 40%-70% with a target of 65%.
  
  

• The Pro-Mix Maximum Fund is more aggressive. It is designed for participants with 15 or more years before retirement. Investment in the stock market can range from 70%-95% with a target of 85%.

Each option carries risk. Risk free investing would not work for a retirement fund because participants invest for the future and depend on the long-term growth of their investment to provide income in retirement. Investing in a passbook savings account with a return of less than 1%—just because it is a safe investment—will not provide the long-term financial security they seek.

Many people don’t fully understand how they make or lose money in their account. While it is rather simple to understand the earned interest concept for a regular savings account, the idea of net asset value (NAV) and volatility is more difficult to understand when trying to determine why your retirement account fluctuates in value.

Valuation of accounts held by the Board of Retirement occurs monthly. As an example of volatility, let’s assume you deposit $100 into any of the investment funds described above. On the day you make the deposit, assume the net asset value (NAV) is $10 per share. With your $100, ten shares are purchased for your account. But when you receive your statement the following month, you find that your balance is $97.50 instead of $100. What happened?

The NAV decreased due to market volatility. You still have 10 shares, but the NAV is currently only $9.75 per share rather than the $10 per share you paid for it. Your shares, purchased at $100, are now only worth $97.50. Of course, the same process works the opposite way as the NAV rises.

Using the example above, if you transfer your investment from the fund you originally selected to one of the other funds while the NAV is $97.50, you experience an actual loss of $2.50 on your $100 initial deposit. If you do nothing and simply leave the funds where they are, your account balance will show an unrealized (or paper loss) of the same $2.50. Of course, the NAV may increase and recover your lost value, or it might decline further, depending upon overall economic conditions.

Why does the net asset value (NAV) fluctuate? The NAV fluctuates based upon the underlying value of the stocks in the pool of assets in your portfolio. For example, each of the funds described above has stock from many different companies in the portfolio. The value of a single company’s stock may move up or down based on a number of things, including the overall demand for the company’s products, expansion efforts into new markets, closing of certain markets to the company’s products, the development of a better product by a competitor, or a thousand other reasons.

As in sports, there are always winners and losers, and both may be contained within the same portfolio. Consider the rise in the price of Apple stock over recent history. With the release of iPhones, iPads, and other popular products, Apple has surged to the top of the technology sector of the market. While Apple gobbled up market shares, other technology companies like Dell and HP suffered. Your portfolio might contain all three companies in the same portfolio. The hope, of course, is that “gainers” always out-weigh “losers.”

The goal is to maintain a long-term view and hope that over an extended period of time you realize substantial gains from your investments in growing and prospering companies.

About the Writer: D. Ray Lewis joined the Free Will Baptist Board of Retirement in 1983. He became director in 2005 after serving for several years as assistant director. Learn more about your retirement options and opportunities at www.boardofretirement.com.