Risk Management

Strong risk management is essential to ensuring that Rhode Island’s investments remain sound even in times of severe economic stress and volatility. Standard deviation is one way to measure how risky an investment portfolio is.

While there will always be some risk that comes with investing in the financial markets, a lower standard deviation generally means that the state’s investments are expected to have stronger protection during times of economic distress.  This is important because more consistent returns improve the pension fund’s long-term performance, and ability to pay pension checks, through the impact of compounding (minimizing the risk penalty). Take a look at the example below:

Time high volatility low volatility
Year 0   $100.00   $100.00
Year 1 -20% $80.00 -5% $95.00
Year 2 +20% $96.00 +5% $99.75

Both the high volatility and the low volatility scenarios have the same average return (0 percent) but in the low volatility scenario the pension system ends up with more money.