Interest Rates & Your Financial Goals
I'm Christopher Wolfe from Merrill Lynch Wealth Management. Recently we've seen interest rates start to move up, and in some cases quite dramatically. There's been talk by central banks and primarily the Federal Reserve in the United States about removing some of the support they're providing to fixed income markets.
This quantitative easing that the Fed has provided has been very helpful to the bond market, and just the mere talk of reducing that support we think has sent the bond market into a bit of a tizzy, and that tizzy has been reflected in higher interest rates.
Steps to Consider When
Interest Rates Rise
We think clients can deal with rising interest rates a couple of different ways: First and foremost: Ensure that your fixed income portfolio has a range of maturities, or a duration, that matches your goals. In general, we think these should be shorter than you have normally because shorter maturity bonds aren't as sensitive to hikes in interest rates or movement in the yield curve, so that's number one.
Message number two is: Ensure that there's some balance. Investors looking to find income have often put a lot of their eggs in one basket, the equity basket, defined equity income. Our view is that the balanced portfolio still serves clients very well.
The third way that rising rates affect clients' financial pictures is really on the liability side, and that relates to things like your mortgages, credit cards, and other debt that you may have.
Rising interest rates will tend to push up the cost of financing the investments or those liabilities that you have tied to those investments. That means you need to be thinking about rising rates affecting both sides of your balance sheet, and not just your investment portfolio.
Fitting Your Goals
Into the Picture
An important element when thinking about how to deal with rising interest rates in your portfolio often depends on what your goals, and where your stage in life is.
Let's take for example somebody who's 66 years old on the verge of retirement, has accumulated a nest egg, and is thinking about how to deal with the next 15, 20, 30, maybe even 40 years of life.
Even though we have a view that we're likely to see interest rates rising over the near term, we think it should provide a benefit to somebody on the verge of retirement, primarily because as rates rise, the investor is able to capture some of those higher rates in the form of income, that will be useful for them throughout the rest of their retirement.
Now a different example is somebody saving for say a shorter-term goal, say college education over say the next five or ten years. Our view is that clients with these shorter-term types of goals should be more careful, a bit more cautious, in managing their fixed income portfolios, and that ultimately means staying with shorter maturities, particularly if you only have five or ten years in order to accomplish your goal.
A final note about a rising rate environment: When you have a goal and you feel like you have a good strategy, and you're committed to delivering on that goal, then it's often the best advice to stick with that strategy and ride out some of the periods of volatility, certainly if the portfolio is well-diversified across different investments in both fixed income, equities, and the like.
Get new insights on rising interest rates and navigating the new financial environment from Christopher J. Wolfe, CIO, Private Banking & Investment Group, Merrill Lynch Wealth Management.