The Fed has indicated that they will raise short-term interest rates this year, perhaps multiple times. Given that rates are on the rise, how might that affect your portfolio allocation? Is there something that you can do about it?
First, you can always take the long-term view, have a well-balanced portfolio invested for the future, and just stay on course. You don’t have to change anything. Target date funds, total bond market funds, total stock market funds if invested for the long-term future (10+ years) will be just fine. At least, they always have in the past!
That said, it is a unique environment of rising rates which we haven’t seen in a while! Recall that when interest rates rise, bond values fall. Why is that? Tune in to hear an example. We also discuss why you hold cash as part of your portfolio and maybe a couple alternatives worth investigating.
Find out more about Mike at https://www.mortonfinancialadvice.com and connect at https://www.linkedin.com/in/mwsmorton/
Transcript
how are you?
[:[:People were literally freezing death around him. They had no food and the title of his book. And I haven't had a bad day since, and that's how I feel. Each and every day, you know what? It be so much worse on that happy note. Speaking of things, both kind of getting worse and getting better, it's been an interesting few terms of economic discussions about interest rates.
oking in the first quarter of:[:[:Despite the name, people do not find this topic. Interesting.
[:[:How do you position your portfolio to deal with that?
[:What are potential moves that want to think about or implement to. Take advantage of current situation. We're not get destroyed by the current situation. However you want to look at it. So yeah.
[:[:[:[:Continue to save and invest for future and let it ride. And that advice holds. So if you do want to tune out, you don't want to hear any details, if that's you fantastic. I'm sure you're going to be in great shape. Come to even the end of the year, no matter what happens this year.
But in this case, is a unique environment as well, because we haven't been in rising rates a long time. So there are certain things that you can think about Or do or understand in your portfolio do that. So for one, we don't even know necessarily what interest rates are going to do. The fed is in charge of, short term interest rates and interbank lending and loading.
Okay. How that flows through to your borrowing costs, your mortgage, how that flows through to your savings you interest rates, even short term, intermediate term long-term bonds. The fed is not in control of those rates. They come back it flows through the market and individuals supply and demand make up rates.
So it's not even foregone conclusion that long-term bond rates will move that much.
[:[:Bond values, fall
and
[:[:[:[:[:[:[:[:So I've got this thousand dollars and I'm going to pay Matt 10%. of. Cause I Matt, so 10% sounds pretty good to me. And so I'm going to pay you a hundred dollars a year. Okay. So I borrowed a thousand. I'm going to pay 10%, a hundred bucks a year. So I Matt's thousand
[:right? You're
not
[:[:[:[:[:So I go to our good friend, Robyn, and I S I a thousand dollars from Robin, but he says interest rates have gone up. I want to 20%. Okay. 20% of 10%. So I have to pay him $200 a year. So now I've got, Matt's got a bond, an IOU that he's getting a hundred bucks a year. And Robin has gave me a thousand same thousand, but he's getting 200 bucks a year.
Okay. Now, if, if somebody else wants buy Matt or Robin's bond who's do you think they're going to buy.
[:I see exactly where you're going with this. So Robin holds a bond that pays him 200 bucks a year. I hold a bond that pays me a hundred bucks a year will de the value of bond is lower than Robbins.
[:It's just not worth much anymore. Grandma really wants Robin's bond. And that's why when interest rates rise, the principal or the bond value goes down.
[:because interest rates went up.
Okay
[:So millions of bonds as interest rates rise, and you put a foul, you put a thousand dollars into that mutual fund. The total us bond market, you invest a thousand dollars as interest rates rise. Your thousand dollars might go down in value. It's not worth as much.
anymore.
[:What you're telling me that 20% is going to go down. Again, all things being equal. My experience may vary, but 20% that's in bonds, the value in there going to go down. interest rates go up in
[:[:[:[:[:[:moves.
[:Or does it go down to, $900? We don't Okay. So that's why we have the view set and forget if you're in a target date fund. Like you mentioned Hey, 20% might be in bonds. What should I do you Hey you can't really do anything about that because that's target date fund they're managing that money for you.
that view, if it goes down good news, it's on sale. They're going to buy more of it because it's going to come back in the future. Okay. So that's where we get to the, Hey, you don't have to do anything, but Mike, I do have bond funds. I do some investing myself. I do my own allocation.
I got some bond funds. So what are you telling me? I'm telling you that bond values might go down in the short term. So therefore, this is why with my clients currently I'm recommending, let's not get too heavy on bonds and even hold some cash.
[:It's not in the long run. You'll do just fine, especially if you're in one of these rebalances manages and et cetera. But to the extent that have new money on the margin that you're looking to invest in, or perhaps you do, as said a little bit of, you're not just in, in some broad fund you you're controlling this, you're curating little bit more.
You might edge yourself away from where you're now exposed to that downside risk in bonds.
[:We've been hearing that for how long now? And so if I had episode four years ago, maybe you should hold a little more cash.
People would be like, Mike, you were so wrong. That was dumb. Okay. So that same thing applies today. That's why I said we have no idea what might happen next interest rates. Maybe it goes up a quarter of one, half a percent and then it goes right back because of whatever happens with pandemic economy.
Politicians. I don't know. So in other words, that's why we have that long-term view that you can do nothing we really don't know what's going to happen next again. That said, you to if you worry about these things and you want to tweak things a little bit, my general philosophy, as you've heard on the podcast is make small tweaks to take advantage of potential situations, changing things by.
It's not panicking selling 20, 30% or a hundred percent. It's 5% on the margins. So we have a plan and we feel good about plan. So in other words, Hey, Mike, I've got a bond fund with $20,000. I'm worried is going to go down 18 or I don't, I hate looking at it every day.
Okay. Maybe you take 5,000 of that and put it in. cash. That's 15,000 still in the bond fund, 5,000 in cash. And you wrote it down. Here's why I made this move. I'm going to check in each quarter and maybe make a different decision. So that way you're confident in no matter which way the market goes, still got plenty in the bond fund for if stays steady or goes up still getting that interest.
I've got some on cash that makes me feel better if, and when it does go down just that little bit, Hey, I made a I feel better about that. So in other words, you've got a plan going in, revisit that, write it down and be confident in the way that you're moving forward with your
[:[:[:[:thousand bucks now. And then a disclaimer I never borrow money from any of my friends clients.
It's not allowed first of all. So the question is, why am holding this cash? Because we know inflation. Mike, just, why am I holding cash? I'm losing out, to inflation and else. I'm certainly not making anything in my savings account. the answer is we just said, because Hey, what's happened in the last couple of weeks, with the stock market, been pretty volatile. It's been going down a little bit. Some names been going really going down the overall markets, down a little bit. Luckily I didn't put that 50,000 into the market because I could have lost a little bit. What about bonds? We just said they might go down by few percent, that 50,000, so OU might lose money there.
What about cash or cash either? You don't lose anything. It just sits there.
So what's the alternative, again, small percent I'm saying use $50,000 I'm saying that in the context of maybe a 500,000 between your retirement accounts brokerage cetera, et cetera. So this is 10%, you know is sitting 50,000 in cash.
The reason we have it in cash is to be ready depending on what the markets do next. If stocks fall by 5 10 20%, Hey, we could buy they're on sale. This big for sale sign just went up in the store, everything 20% off, come and get it now. Oh, luckily I have some cash sitting around. that I can. that bonds go down or the interest rates do rise, Hey, now I can get 2%, 3%, 4%, yeah. I want to take advantage of that. again, getting back to the plan we've written down. Here's why I have $50,000 of cash for these reasons. And then week-in and week-out quarter yearly We can revisit, the plan this is I have money the time to make a move Is the market down 10 or 20? Great. You know And if not, it's 10% of our portfolio. the market keeps going up this year, we get another 20 gain me No, going to be calling me complaining, Hey, I just made 20% on the 80, 90% I had in the market. Great. That's why we write these things down and have that plan.
[:[:So interest rate over 7%. So again, that 50,000 of cash, well you can take 10. of it You don't put it into an I bond. And that'll be great.
[:[:return on lending money. You lend a few million dollars to a big developer. They develop a skyscraper you're lending at a 10% interest rate. And so that those are available to more retail investors. Now, then you can certainly look that up. There's other products, annuity products guaranteed annuity products short terms, one to three years where you can get four or five, six.
On those products, they each of those things, I just mentioned have different risk and rewards, the private debt, things could go belly up, right? Those projects in the guaranteed annuities, you're locking money up, know you don't access to that money. The stock market goes on sale by 30%.
You're making 4%, you've locked up the money and gotten that 4%. So each of them have different risks. That could really make sense you depending on the situation. There are a a lot of alternatives. Now just go in with eyes wide open and do a lot research understand because the sales pitch, the marketing it'll look great because people are searching for that yield.
Hey, I can't make anything in my savings account. And this guy is telling me I can make 4%. guaranteed. It'll be a big guaranteed. 4% That sounds awesome. So the marketing materials look really good. Just be careful, you understand all the risks because everything is a trade-off There is no free lunch. Everything has got offs and different products and alternative investments sense to different people depending on your situation. That's why there's a lot of different stuff out there.
[:[:
