Don’t Panic About Interest Rate Increases: Look to Profit Instead

Here’s how to adjust accordingly to protect your investment portfolio during these times of rising interest rates.

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After an extended period of historically low interest rates, the Fed has reversed course and cranked up interest rates to combat rising inflation, which hit a record high of 9.1% in June. At its most recent meeting on July 27, the Fed turned up the heat with another three-quarters of a percentage point boost, matching its largest increase since 1994. That followed an identical 0.75% increase in June, a 0.5% increase in May and a modest 0.25% increase in its key rate during its March meeting.

The Fed has signaled it was prepared to raise rates periodically throughout 2022. At their July meeting Fed Chairman Jerome Powell noted that "another unusually large increase could be appropriate at our next meeting" depending on the data we see in the meantime.

While many investors are worried about the effects of rising interest rates on their portfolios, there are many investment options that tend to thrive in a rising interest rate environment. Re-evaluate your portfolio and consider these strategies to maximize your potential return and protect your investments during Fed rate increases this year.

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High-Yield Bonds Offer Fixed Security

Rising interest rates tend to flip the strategy in the bond market. Rather than seeking long-term, high-quality bonds, you'll see a better return by investing in high-yield bonds, especially lower-quality corporate bonds.

Morgan Stanley analyzed the bond market (opens in new tab) after President Trump's election, when investors were anticipating increased interest rates. The analysis found that between Nov. 8 and Dec. 31, 2016, U.S. Treasuries returned -2.63% in aggregate and -1.82% from investment-grade bonds. At the same time, high-yield bonds netted a positive 1.75% return.

High-yield bonds are less susceptible to interest rate increases because they more closely follow the equity market. They tend to have shorter maturity dates, which makes them less influenced by rising interest rates. It is significant to note, however, that holding your bond until its full maturity is the key to investing in bonds. They also carry a higher interest payment, or coupon, which combines with the bond movement to determine total payout, so the higher coupon is able to absorb the effect of a rising interest rate.

The lower-quality corporate bonds — those rated single-B and triple-C — perform the best during such times, because they tend to be held by smaller corporations with lower debt. Their lower ratings are based merely on size, but also require their bonds to carry a higher coupon. With the economy rebounding, these smaller businesses are doing better financially and tend to be better able to meet their debt obligations.

Emerging Market Debt Holds High Potential

Emerging market bonds are issued to serve the debt from developing countries and companies within those countries. They have become increasingly popular since the pandemic due to their rising credit quality and higher yields and can be a great option to improve investors’ risk-return profile of their fixed-income portfolio.

As the global economy continues to see growth and rebound from previous years, rising global trade and commodity prices make investing in emerging market debt attractive to investors seeking higher yield.

Companies with Sustainable Business Models

The best way to feel comfortable with your investments in a time of rising interest rates is to have a portfolio built for the long haul, which will include a solid share of investments in businesses that remain stable in all types of environments. Think about a blue-chip company, such as Costco (COST (opens in new tab)), which thrived during the volatile environment created by the pandemic, thereby creating a solid return for investors.

While these types of companies will follow some of the ups and downs of the market, over the long term, their stock values should climb. You can ignore daily market fluctuations because your investments are in the long-term stability of these blue-chip companies. In fact, when these companies experience a small dip, you might consider buying more stock with the confidence it may rebound with time.

Stick to Your Investment Policy Statement

Most financial planners will work with their clients to develop an investment policy statement (opens in new tab), which outlines the client's long-term goals, risk comfort and a strategy for meeting those goals. During times of market volatility, sticking to your investment policy statement is more important than ever.

If you and your adviser gathered that you need a certain allocation ratio to be at the risk level you can afford at any given time, don't deviate from that allocation ratio. For example, if your investment policy statement says that you want to earn 6% and in order to earn that you should be in 70% stock in the long-term, stick to that.

While interest rates are rising, now would be a good time to sit down with your financial planner. You need to ensure your long-term investment strategy remains intact. Then, you'll be able to make minor adjustments to shift investments toward companies and options that perform well when interest rates are rising.

Securities and investment advisory services offered through Royal Alliance Associates, Inc. (RAA) member FINRA/SIPC. RAA is separately owned and other entities and/or marketing names, products or services referenced here are independent of RAA.

This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.

Adam Lampe
CEO and Co-Founder, Mint Wealth Management

For more than 18 years, Adam Lampe has helped high net-worth-individuals, affluent families, foundations and institutions work toward their financial goals through holistic financial planning. As the CEO & Co-Founder of Mint Wealth Management (opens in new tab), he leads all development efforts within the firm. Alongside his extensive work serving clients, Adam also teaches retirement planning courses through Lone Star College and Prairie View A&M University satellite campuses around Houston.