Relaxed or risky, it is up to you

“As a starting point, you need to understand exactly what you are trying to achieve, over how long and the risk you are willing to take,” says Patrick Connolly of AWD Chase de Vere, an independent financial adviser.

“This will dictate how you structure your savings and investments. The most cautious investors should remain in cash, while other investors should look at alternatives to try to generate a higher level of return. The right approach for them will depend on their circumstances, objectives and attitude to risk.”

Investment is a trade-off between risk and reward. The investments that offer the greatest potential for superior returns over the longer term also come with the greatest risk of short-term losses.

Equities, in which most stocks and shares Isas are invested, sit towards the top of that range. Over time — likely to be five years or more — equities tend to produce better rewards than assets such as cash. But in the short term performance may be more volatile.

Investors who do not take a long-term approach to the stock market risk losing some of their starting capital. In the UK, research from Barclays Bank show that over the last 100 years or so, equities had a 66 per cent chance of returning more than cash over a two-year period: over ten years that likelihood rises to 90 per cent.

Different types of equities carry different levels of risk. All shares can fall as well as rise, depending on the changing fortunes of the company in question.

But there are other factors, too. If you are investing in overseas companies, there is a risk that currencies may move against you. Smaller companies, whose finances are more precarious, tend to be more volatile than blue chip stocks. And no company is entirely the master of its own destiny — the best managed businesses may still struggle in difficult economic times.

Mike Horseman, of Cockburn Lucas, an independent financial adviser, tells investors to consider the worst-case scenarios, particularly over the short term. “We are asking clients to think about their risk tolerance for 2012, as we think it will be another challenging 12 months,” he says. “We are asking what they are prepared to lose as opposed to what they are prepared to make.” The answers you give will inform the choice you make for this year’s stocks and shares Isa.

Fund managers offer different types of stock market-invested funds to suit investors with different tolerances to risk. At one end of the range, low-cost, passive funds simply track the performance of a particular market. They can still lose money if the market falls, but managers have no mandate to try to second-guess which companies will perform best, or even general market movements. So investors should not lose more than the market itself.

Another lower-risk option is a fund with a cautious brief. These funds often combine investments in equities with holdings in asset classes that tend to be less volatile, such as bonds issued by companies and governments.

Alternatively, for investors with more appetite for risk, activelymanaged funds aim to outperform the markets to which they allocate your money. They may make bigger bets on individual companies, for example. There is potential for greater rewards but also the possibility of more significant losses.

Some of the actively-managed funds are more aggressive than others, or more exposed to assets that tend to be volatile. A fund invested in emerging markets, for example, is more risky than one that sticks to large UK companies. Other options include funds of funds, while investors seeking an income will consider funds geared towards that need.

Avoid putting all your eggs into one basket. “I am seeing a lot of client portfolios at the moment that are not diversified enough,” says Jaskarn Pawar, of Investor Profile, an independent financial adviser. “My tip is to make sure your investments are well spread.”

Even after you have used up your £10,680 Isa allowance, you can make additional investments in your funds. But you will not be able to shelter them from tax until the next tax year..

Steve Laird, of Carrington Wealth Management, says: “Many people think that if they already have an Isa they cannot have another one but Isa allowances are available every year.”

Moreover, once you have made your investment, it is not set in stone. Sensible investors regularly review the performance of their Isas and other investments. Look at the returns you are earning in the context of both what is available from rival products and progress towards investment goals.

Your attitude to risk may change over time, too. If you are unhappy with funds you are entitled to take your money elsewhere without losing your Isa tax advantages.

That said, always remember that the stock market is for long-term investors. Review your investments annually but do not be tempted to start trying to trade in and out of funds too often.

Taking the ire out of retirement

Graham, 60, has built up an impressive Isa portfolio worth over £100,000 by making use of his full allowance over the years.

He has always regarded himself as a bit of a risk-taker and his portfolio is packed with funds that invest in stocks and shares both here and overseas.

Some of his most successful investments have been in high-risk emerging markets in Asia but his priorities are changing as later this year he will retire.

So far he has focused on growing his portfolio but now he wants it to provide him with an income to top up his pension. He has therefore decided to shift the emphasis to lower-risk investments and funds that generate income.