As we move into 2014, it is a good opportunity to look ahead to the next twelve months and consider any risks to your investment portfolio.
If you read the financial press during 2013, you would have seen many worrying headlines. Arguably the most alarming suggested that the US might default on its debt for the first time in its history. Thankfully, a resolution was reached. Nonetheless, talk about the world’s largest economy being unable to service its debt would be enough to make the most adventurous investor wary. This highlights that even a US government stock is not without risk. Indeed, US government stocks and other fixed interest securities, such as corporate bonds, may be at risk during 2014, due to a reduction in Quantitative Easing (QE).
You will be aware that many governments have turned to QE in order to “prop up” their economies. QE effectively equates to “printing money”, with the hope that this will produce growth which will snowball, leading to economic recovery. QE is, however, not without its drawbacks. Once QE has been introduced, it is difficult to pull the plug without a negative impact on the economy. This is important as Mark Carney, the new Governor of the Bank of England, gave a speech suggesting that QE may be reduced during 2014.
What does this mean for your investments? Fixed interest holdings have traditionally been considered a lower risk asset. They have been less volatile than equities historically. As such, fixed interest holdings are often used to provide a more conservative element to a portfolio. These holdings may not, however, provide a stable element to the portfolio this year, as would traditionally be expected.
A reduction in QE is likely to result in a fall in value for fixed interest holdings. So, what can be done to minimise the risk within your portfolio? A reduction in QE tends to suggest that the developed economies have returned to a more consistent pattern of economic growth. Whilst this may be bad news for fixed interest securities, equity markets tend to deliver positive returns during times of growth.
Does moving fixed interest holdings into equities provide the answer? The short answer is no. Whilst moving to equities would reduce the risk linked to holding fixed interest securities, it would increase other risk factors significantly. There may also be tax consequences of rearranging a portfolio, which could impact on planning. The important thing is to seek professional advice, in order to ensure that a full portfolio review has been carried out and other options considered, such as:
- Switching to other types of fixed interest holdings, which may be less susceptible to falls in value in response to a reduction in QE.
- Ensuring that your portfolio has a variety of different assets, in order to diversify risk. In this way, falls in value within one asset class may be accommodated as they may be compensated for by increasing values of other asset types within the portfolio.
- Leaving matters as they are, and accept that risk associated with holding fixed interest securities is suitable for you, given the other benefits they provide, such as relatively stable income yields.
The decision as to which approach is most suitable for you will depend upon your own circumstances, objectives and attitude to risk. At Bond Dickinson Wealth Limited we look to ensure that our clients’ portfolios are diversified to manage risk and to cope with market fluctuations as and when they occur.