Investors: It's Time to Skate to Where the Interest Rate Puck is Going

Legendary hockey player Wayne Gretzky said, "skate to where the puck is going to be, not where it has been." This applies to investing too.

For the past two years, investors have benefited from a strong cash environment, building up larger reserves than usual. But the party's ending - interest rates, the "puck" in this analogy, are about to change direction. Lower rates and weaker cash returns are on the horizon.

Looking ahead, investors need to consider where interest rates are likely headed in 2024 and beyond. This means potentially moving away from those big cash holdings.

Why the Shift?

Large cash holdings made sense post-pandemic. The Federal Reserve's aggressive rate hikes, the most in 50 years, along with similar moves by other central banks, made cash a more attractive option than it had been in a long time.

However, the tide is turning. We believe the Fed will soon start cutting rates. So, the question becomes: where do you invest in this falling rate environment? How can you reinvest your maturing Treasuries and money market holdings in 2024?

Taking Stock and Moving Forward

To ensure your portfolio remains on track for your long-term goals, it's time for a checkup. Here are some key areas to consider:

• Right-sizing your cash position - How much cash do you truly need on hand?
• Re-entering the stock market - Consider strategic investments in equities.
• Incorporating core bonds - Bonds can still play a role in a diversified portfolio.
• Exploring alternative investments - Diversification is key, consider alternative options.
• Keeping costs and taxes in mind - Look for low-cost investments and be tax-aware.

Cash Check: Is Your Portfolio Holding Too Much?

We believe interest rates have reached their peak, with yields likely to decline as central banks globally start lowering rates. This means staying heavily invested in cash could actually hurt your long-term financial goals.

While inflation has softened, it's still eroding the value of your cash holdings. With lower interest rates expected, it's time to re-evaluate your ideal cash allocation for your financial plan.

Do you have more cash than you need?

If you're holding excess cash for short-term needs, consider reducing your cash balances now. This allows you to secure better interest rates that align with your investment timeline and liquidity requirements.

Historically, bonds have outperformed cash holdings right after the Fed stops raising rates (see chart below). We believe we're in such a pause period, potentially followed by rate cuts, creating opportunities to invest your excess cash towards your long-term goals. For example, looking at data from 1971 to 2019, after the Fed's final hike in a tightening cycle, bonds delivered an average return of [insert average bond return %] in the following year.

Re-entering the Market: Equities and Core Bonds

Recent record highs in the stock market might leave some investors cautious, wondering if the good times can last. But we maintain a positive outlook. Here's a reason for optimism: historically, in the U.S. market, all-time highs have often been followed by even higher peaks (see chart below). While past performance doesn't guarantee future results, these patterns tend to repeat over time as economies and companies expand.

Core Bonds: A Strategic Play

While equities offer growth potential, core bonds can also play a valuable role in your portfolio. They can provide diversification and income, potentially helping to offset volatility in the stock market. We recommend consulting with a financial advisor to determine the appropriate mix of equities and core bonds for your individual risk tolerance and financial goals.

Here's a caveat to consider regarding the historical performance of U.S. stocks:

While it's true that U.S. stocks have historically always recovered from previous highs, it's important to acknowledge that this recovery can take time. Investors should be prepared for potential short-term volatility, even if they believe in the long-term growth potential of the stock market.

Beyond the Traditional: Exploring Alternative Investments

After 2023's impressive "everything rally," where both stocks and bonds surged, 2024 might be the perfect time to consider alternative investments. Alternatives offer diversification and the potential for higher returns compared to traditional stocks and bonds.

The world of alternative investments is vast. To navigate it effectively, we recommend a diversified approach. This means spreading your investment across different asset classes and investment strategies within alternatives. But diversification goes beyond that. Consider "vintage year diversification," where you invest in funds launched in different years. This spreads your risk across different economic cycles and allows you to potentially capitalize on emerging market opportunities. This strategy can be particularly powerful if you believe certain alternative strategies have strong potential for outperformance.

A word of caution: alternative investments generally carry a higher degree of risk compared to traditional assets like stocks and bonds. It's important to understand your risk tolerance before venturing into this area.

Spotlight on Private Credit:

While private equity and infrastructure offer opportunities, we believe private credit stands out as a particularly compelling option in 2024.

We can help

Now is a good time to review your long-term wealth plan and consider whether you may be holding more cash than necessary to achieve your long-term goals. We encourage clients to “skate where the puck is going” rather than staying in cash. For a comprehensive health check of your investment portfolio, reach out to your Ento Capital team today.