The Federal Reserve Rate and other interest rates sit near historic lows, and most economists and market forecasters predict that the United States is moving towards a rising interest rate environment. In the current environment, even small interest rate movements cause market analysts to predict that rising rates will destroy the value of bond holdings, and cause catastrophe for people with income investing strategies. Despite the media’s calls for calamity, it is possible to invest profitably in a rising interest rate environment. These are three tips for DIY investors to consider.
Maintain Your Asset Allocation
Your asset allocation reflects your goals, and even in a rising interest rate environment, you should maintain your strategic asset allocation. Calls for rising interest rates may tempt you to sell bonds and buy stocks, but a rising interest rate may not happen as soon as the market analysts think. Moving out of bonds too soon leaves you with little opportunity to reduce volatitlity (and risk adjusted returns) and to benefit from rebalancing.
Sticking to your investment strategy when one part of your portfolio is falling is one of the toughest mental challenges that DIY investors face, but in the long run it can be a competitive advantage.
Buy Investments You Understand
During rising interest rate environments, financial salespeople start hawking options to short the bond market, options to short the US dollar, and high yield junk bonds. Oftentimes, they will cite recent returns without adjusting the returns for their risk. DIY investors can protect their portfolio by looking to buy financial products that they understand, and looking for investments that yield high long term risk adjusted returns.
It is tempting to place big bets that might allow you to beat the market, but speculative scenarios don’t always pan out, or they may not happen at the right time. In investing, there are no “sure things”, and it’s okay to stick with vanilla investment strategies that will lead to long term results.
Consider some fine tuning
DIY investors who engage in some disciplined trading activity to maximize their returns may want to consider fine tuning their investments in preparation for a rising interest rate environment. It’s critical to stick to your asset allocation, but some portfolio fine-tuning will help some investors meet their goals.
Investors who plan to withdraw money from their portfolio in the next few years might want to consider creating a bond ladder which creates an income stream and gives some downside protection in a rising interest rate environment. Bond ladders and other fixed income strategies are appropriate for investors who are approaching the point where they need to withdraw money from their portfolios.
People with hold real estate positions (REIT) may want to be sure that their particular investments are conservatively leveraged since rising interest rates tend to hurt real estate returns. Investors may also want to check that they’ve allocated enough of their portfolio to the financial sector since rising interest rates tend to help banks profitability.
No matter what investment fine-tuning you do, you should be certain that your investments reflect your goals. A rising interest rate environment is not a sure bet. Rather than focusing on market timing, every investor should make sure they hold high quality investments, and that their investments fit their risk profile and their goals. Before doing any trading, be sure you’ve completed all the necessary research to be sure you’re getting a good buy.
The Key To Success in a Rising Interest Rate Environment
No matter what macroeconomic landscape an investor faces, sticking to a strategy is more likely to yield success than any other investment strategy. Financial media might be whipping into a frenzy since we’re facing rising interest rates for the first time in years, but staying the course is the true key to success.
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DIY.FUND was developed by a team of financial industry veterans. While building portfolio and trading systems for multi-billion dollar hedge funds, we realized the same tools are not available to the individual investor…