It would be an understatement to say that 2008 was a bad one for most super fund members. Anyone with money in a typical growth investment option – and that is the majority of all fund members – would probably have seen the value of their account ‘going backwards’ at an alarming rate, even after allowing for new contributions during the year.

The average growth option, with about 70% in growth assets (mainly shares), lost over 22%, wiping out the gains for the previous two years. Does that mean that super has suddenly become high risk? Or has the risk of such a terrible result always been there? What are the chances that it could happen again? Or, more optimistically, is there likely to be a decent recovery any time soon?

These are the sorts of questions that members should be asking themselves, and they should be looking to their fund – or their financial adviser if they have one – for the answers. We may also be able to help, by putting the 2008 experience in a historical context.

Using data provided by Russell Investments covering the calendar years from 1980 to 2008, we have constructed the following table. As always, it is important to qualify the table and our comments with the reminder that past performance is not necessarily a good indicator of future performance. Nevertheless, it can be instructive.

The table shows that over the entire 29 year period there were four years in which growth options (70% growth assets, 30% defensive) experienced a negative return. Those were in 1990, 1994, 2002 and of course 2008.

One obvious point to note is the sheer size of the loss in 2008. At -22.2%, this was more than three times worse than the losses in 1990, 1994 and 2002. Members might well be saying to themselves: “I was prepared for the possibility of a negative year from time to time but I never contemplated anything like 22%. Was that a freak result?”

The answer, based on conventional expectations, is something like 1 in 60 to 100. So what we have experienced is something approaching a ‘once in 100 years’ event.

Another observation from the table is that the years of negative return have been reasonably spaced out, with gaps between them of 4, 8 and 6 years. This pattern conforms broadly to the theoretical risk of a negative return, which for growth funds is approximately 1 in 6. Note that this does not mean we expect negative years to come along at intervals of precisely six years. Rather, it means that the risk of a negative return in any single year is 1 in 6.

Looking again at the table, we can see that negative returns generally follow extended periods of quite strong performance. It seems that markets ‘get ahead of themselves’ and need a correction to pull them back towards their long-term trends. Most times the correction is relatively benign but, as we have seen, 2008 was a notable exception.

In ‘normal’ times, the years following a negative return have generally produced strongly positive returns. Again this is shown in the table. So there is some hope for those unhappy members in growth options that their fortunes will turn around reasonably quickly.

To get back to where they were at end-December 2007 (ignoring new contributions) requires a positive cumulative return of 28.5%. If we look at the three previous negative return years in our data series, on each occasion a return of about that much was achieved within two years. Whether that will happen again this time, given the severe damage being felt in financial markets and reflected in real economies, remains to be seen.

For investors looking for a turnaround, the early weeks of 2009 have provided no encouragement at all. The gloomy outlook for global economies raises the possibility that we may be facing another calendar year of negative returns. We consider that unlikely, given that markets tend to anticipate events rather than be led by them, and may well rebound later this year. However, the 2008/09 financial year will almost certainly be negative, as was 2007/08.

In theory there is no reason why negative returns could not occur in consecutive years, but in practice they tend not to. That is because these are not random events, but rather they are driven by economic and market cycles. If back-to-back negative returns were to happen it would again be highly unusual. Statistically, based on the experience since 1980, there is only a 1 in 25 chance of consecutive years of negative performance.

Having experienced investment risk the hard way, now is a good time for fund members to reassess their risk tolerance and satisfy themselves that they have chosen the right investment option. That is particularly true of older members, who may not have the luxury of time to replenish their retirement savings.

We know that asset allocation is the key to investment performance, so what is the right asset allocation or investment option?

Jack Bogle, a well-respected and highly experienced investor who founded Vanguard Group in 1974, has a rule of thumb that an investor should take their age and have that percentage of their assets invested in bonds. Adapting that idea to the Australian superannuation scene, a 30 year old should be suited by a 70:30 growth option, a 50 year old should be thinking more in terms of a 50:50 balanced option, while a 70 year old pension member would be looking at a 30:70 conservative option.

Of course a rule of thumb is just that. There are young investors who are innately conservative, just as there are older investors who are natural risk-takers. And of course there are personal investment goals and non-super investments to be taken into account. There is no ‘right’ option for any age group. It is only by understanding the risk/return trade-off of different investment options that fund members can know what to expect and what is likely to suit them best.

Any change of investment strategy needs to be considered carefully. For example, someone moving now out of a share-based option into a more conservative option risks missing out on the eventual rebound in equities, and moving into what may be a deteriorating bond market. Should they wait until they have recouped some of their losses, or is there a risk that things could get worse still? These are decisions to be made with the help of good professional advice.

In the end, members need to be comfortable with their decisions. Education and understanding help, but so does gut feeling. Meeting your investment objectives is important, but not as important as sleeping well at night.