The Fed’s September 18th interest rate cut was a long time coming and a symbol of progress on inflation. It’s a cause for celebration and a catalyst for re-examining investment strategies you favored during the higher-for-longer interest rate environment. With more rate cuts expected later this year, now’s a perfect time to consider changes that could be advantageous to your portfolio.
Don’t get me wrong. I’m not an advocate of timing the market, but I am a believer in managing your portfolio to capitalize on changing tradeoffs between risk and reward. Given the declining interest rate environment, it can be a smart move to hold less cash by moving up the risk curve and buying fixed income and equity investments.
With Decreasing Interest Rates, These Investment Options Shine Bright
- Investment Grade, Fixed Income
- Dividend paying stocks, particularly in the consumer goods sector
- Small and mid-cap stocks
For example, money is already flowing from money market funds into bond funds, as investors attempt to lock in yields before rates drop further.
Equity funds, particularly those holding dividend paying stocks, are also tempting investors to move out of cash for better returns. If all goes as planned and we avoid a recession, stocks should continue to generate higher returns than bonds over a 5- to-10-year period, and the dividend yields add an element of safety.
Speaking of the stock market, we’ve seen the dangers of being too growth-oriented over the last few months. Many tech stocks that had a good run-up got hammered – a reminder that the cost of high growth is high volatility. That volatility may be acceptable for younger investors, but I’m encouraging mature clients who want to invest some cash to consider diversifying their tech holdings with consumer staples.
Companies in this sector produce essential products that people use day in and day out. Food producers and manufacturers of household goods may sound like boring investments, especially compared to Nvidia, Alphabet, or Apple, but these large, established companies tend to be far more stable investments. The consumer staples sector provides modest growth, low volatility, reliable profits, and steady dividends, which is why I diversify with them in financial plans for clients in their 50s and 60s.
I can’t stress enough the importance of owning a well-diversified portfolio when you’ve accumulated wealth that you want to preserve. Concentrating your assets amplifies the impact of volatility and changing market conditions, tempting you to move money and trade sectors at the worst possible times.
If you’re like most investors, you might think you’re well diversified, but you probably aren’t, especially if you set up a portfolio two or three years ago. If your portfolio hasn’t been rebalanced during that time, it’s likely to be dominated by tech stocks. Contrary to popular belief, owning the big index funds doesn’t provide enough equity diversification. Think about it: roughly 31% of the value of the S&P 500 Index is composed of stocks in the information technology sector.
At this stage of the economic cycle and in anticipation of more rate decreases, some investors are moving from cash into small and mid-cap stocks. There are two reasons this allocation could be beneficial. First, smaller businesses that want to grow in value will be able to borrow money at lower rates. Second, loans will be more affordable for bigger companies who want to acquire smaller ones.
With interest rate cuts underway, now’s a great time to revisit your investment strategies and asset allocation decisions. Declining interest rates might prompt you to move out of cash. Any action you take should be based on your investment goals and personal situation within the context of a solid financial plan.
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