The Federal Reserve raised its benchmark interest rate once again on Wednesday, despite growing signs that inflation is cooling.
It raised the benchmark’s key rate by a quarter of a basis point, bringing it to a range of 4.5%-4.75%. One foundation point is equal to one hundredth of a percentage point.
Fed central bankers said interest rates would need to rise above 5% to bring inflation back to 2%. Inflation, as measured by the consumer price index, came in at 6.5% in December 2022, the lowest reading since December 2021.
The Fed’s announcement on Wednesday pointed to the need for “continued hikes.” Stocks were trading in positive territory on Wednesday afternoon shortly after the Fed’s announcement.
Advisors are increasingly focusing on how to store cash in productive ways that yield some super-secure profits, said Andres Garcia-Amaya, founder and CEO of Zoe Financial, a platform that connects financial advisors with potential clients.
“Client discussions include strategies for high-yield savings accounts, CD ladders and Treasury debt. A recurring theme over the past six months has been how much to pour into bonds.“
Client discussions include strategies for high-yield savings accounts, CD ladders and Treasury debt. A recurring theme over the past six months has been how much to pour into bonds, he noted.
Dow Jones Industrial Average DJIA,
S&P 500 SPX,
and Nasdaq Composite COMP,
posted their worst performance last year since 2008 amid inflation, rising interest rates and recession worries.
So far in 2023, things are looking up. The Dow Jones Industrial Average has risen roughly 3% since the start of the year, while the S&P 500 has gained 6% and the tech-heavy Nasdaq Composite has climbed more than 10%.
So is the average portfolio poised for a rebound or another year of decline? Trying to time investment moves is always dangerous, said Liana Devini, vice president, branch manager at Fidelity Investments.
“The volatility of the market can be expected. Understanding your specific goals, risk tolerance and financial picture, and how your investments align, can help you stay fully invested through various market events,” she said.
Here’s what some advisors advise their clients to do with their money:
Bonds
Bonds are part of portfolio protection. “The bond side of your portfolio can deploy a cushion of protection if something goes wrong,” said Ulin, chief executive of Ulin & Co. Wealth Management in Boca Raton, Florida.
When interest rates rise, bond prices fall. So the rapid succession of Fed rate hikes last year and all the other market issues have made bonds difficult. Last year marked “the worst year for bond investors in our lifetime,” Tom Esaye, president of Sevens Report Research, wrote in a December research note.
As a new year approaches, however, there is renewed hope for bonds to provide some permanent downside protection. Higher interest rates mean higher interest payments, Vanguard notes in its forecast for 2023. The forecast is for US Treasuries to return 4.1%-5.1% annually.
“As the new year approaches, however, there is renewed hope that bonds will provide investors with a permanent downside protection. Higher interest rates mean higher interest payments.“
Goldman Sachs GS,
Analysts said there were $9.1 billion inflows into less risky investment-grade bond funds in January, or about 2.4% of their year-to-date assets under management.
Ulin increased bond exposure for clients. At the start of 2022, it reduced customer bonds to 1 year to avoid duration risk—ie. the risk that bonds with longer maturities will lose value as interest rates rise.
Ulin now thinks the Fed is “close to the one-yard line” in targeting interest rates high enough that he’s “not overly concerned about bond duration risk or interest rates going up significantly in 2023.”
He has already repositioned his clients’ Balanced Model portfolios “into shorter- to medium-term ETFs of municipal, U.S. Treasuries and investment-grade corporate bonds, as well as funds that were undercut by the bond bear market and now provide adequate returns.’
Cash
As interest rates rise, so do the annual rates of return on savings accounts, certificates of deposit, and other safe places to store money.
The APY for an online savings account now averages 3.31%, according to DepositAccounts.com, which tracks rates. A year ago, the average was below 0.5%. The yield on a one-year CD from an online bank averaged 4.36%, up from 0.5% a year ago.
Thomas Scanlon, a Manchester, Connecticut-based financial advisor with Raymond James, has already reduced clients’ equity exposure and accumulated cash exposure.
Specifically, Scanlon sees very short-term 30- to 120-day CDs as a “viable instrument” for the next six months or so.
It’s a conservative move, he notes, but Scanlon said that strategy has some payback when there are so many open questions about interest rates, debt ceiling negotiations and the future of the economy.
“Over the past 15 years, pure savers have been penalized,” Scanlon said, noting when the Fed’s benchmark interest rate was consistently low to generate economic growth, especially during the Great Recession.
“The benchmark fed funds rate is at 2007 levels and may not come back down as soon as investors think,” said Greg McBride, chief financial analyst at Bankrate.com.
“The combination of rising interest rates and falling inflation is a win-win for savers. The highest-yielding nationally available online savings accounts earn over 4% — and keep climbing — a rate that looks better every time inflation comes down,” he said.