The dilemma that most investors face is markets no longer appear cheap and many are forced to accept a greater degree of risk in order to meet an objective, avoid a shortfall, or miss a goal. The major risk you now face is inflation, while, at the same time, sustaining a significant capital loss. Inflation eats away at the value of your money, and you lose purchasing power. If inflation outstrips the rate of return on your investments, then your nest egg will be unable to maintain the lifestyle that you envision during retirement. I believe the worst case scenario you now face is incurring a large capital loss in bonds or equities while interest rates and inflation rise.
In the past, investors favored bonds to generate an income to sustain them in retirement. This week Billionaire Warren Buffett said that “bonds are very overvalued,” and he’d short-sell 30-year debt if he could. Reading between the lines, I believe Buffett thinks there is too much “free” money and liquidity in the system. In addition, Federal Reserve Chair Janet Yellen has stated this week on record that that equity market valuations at this point generally are quite high.
Over the past few weeks, losses have been piling up in the bond markets as rates have risen in anticipation of the Federal Reserve decision to potentially raise rates for the first time since June 2006. While it is impossible to predict the short-term direction of interest rates, it is safe to say low rates are penalizing savers. The challenge we face is whether to invest into a fully valued equity market or invest in low yielding shorter-term bonds. We are now entering the 3rd longest bull market since 1900 where we haven’t experienced a correction of 20% or more. Your capacity to take a substantial loss in your portfolio has not been challenged in some time.
I believe that now is the time to reevaluate and rethink your risk profile. If you are working with an advisor you should ask them what risks that they are considering in today’s markets. This answer should cover your objectives, time horizon, tolerance for loss, and current financial situation. The best answer will not only include your willingness, ability, and need to take risks but will cover market risks.
The best way to minimize market risks is through diversification. Neither asset allocation nor diversification guarantee a profit or protect against a loss in a declining market. However, they are methods used to help manage investment risk. My solution to beat inflation is through global asset allocation and understanding the risks associated with each investment. Your asset allocation and investments should match up with your risk profile. The major risk you now face is that you fail to understand the risks associated with the investments in your portfolio. It is best to work with advisor who thoroughly understands fixed income investing and how to uncover opportunities in the equity markets.
You can never predict when a correction will occur but you can prepare. If you understand the risks that you are willing to take before any market correction then you will be more mentally prepared and better positioned to take advantage of future market opportunities. There are many ways to lower the volatility in your portfolio but you first need to understand these risks. My recommendation is to work with a financial advisor who understands asset allocation and the benefits of diversifying your portfolio. If you would like to learn more on how I can help you navigate these uncertain markets, feel free to give me a call at 508-207-8049 or send me an email to email@example.com.
Please read our disclosure statement regarding the contents of this post and our website as a whole.
Advisory services offered through Constant Guidance Financial LLC, a registered investment adviser.