Studies on how people are changing their outlook on life after COVID-19 are indicating that many are understanding the importance of building a war chest for when a crisis on which they have no control impacts their lives. We are probably at the end of an era where consumerism characterised consumer behaviour. We may be entering a new period of financial sobriety.
Saving for a rainy day will become an objective for those who realise that financial nest eggs take long to collect and can easily be destroyed by adverse incidents in one’s lives. Investment advisers often urge their clients to adopt a 60/40 portfolio strategy with a majority in equities and a significant minority in bonds.
This strategy is being challenged as the current financial markets scenario threatens to deliver disappointing results to those who follow this long-established golden rule.
Vincent Deluard is a global macro strategist at StoneX Group. He warns investors who follow the 60/40 rule that they will probably face a “nuclear winter” as he predicts that the inflation-adjusted returns could be just a small fraction of the 8.1 per cent enjoyed in the last decade.
Those approaching retirement and relying on their savings to beef up their retirement income generally prefer to put more of their savings in investment-grade bonds. This is undoubtedly a more prudent strategy, as equity prices tend to be more volatile.
But at present many investment analysts would agree that both equities and fixed income securities are overpriced. The forward price-to-earnings ratio of the S&P stands at 21.7 times. It stood at 15.4 times over the past 20 years.
When your risk tolerance is low, your main objective should be to preserve capital rather than to seek a return in risky assets
The return prospects for fixed income investment-grade bonds is not much brighter. With interest rates at an all-time low and likely to persist for the next decade, returns are likely to be depressed if not even negative. If inflation starts to raise its head, we may once again experience an era of stagflation with low economic growth and high inflation.
This depressing scenario may even get more worrying if the economic effect of the pandemic translates itself in companies struggling to recover. The disconnect between stock markets and the real economy has never been so apparent and protracted.
One worrying reaction to this challenging scenario is for people to search yield by dipping their feet in the non-investment grade fixed income market. Both the European Central Bank and the Federal Reserve have committed themselves to buy non-investment grade bonds to ensure that the economic downturn is not made worse by the collapse of businesses that teeter on the brink of insolvency. This commitment is understandable as long as it does not become a permanent feature of monetary and fiscal policy.
When your risk tolerance is low, your main objective should be to preserve capital rather than to seek a return in risky assets. Investment advisers will do well to repeat this maxim to their clients rather than hope that governments or consumer protection agencies come to their rescue when the inevitable losses materialise.
So far, no formula is proven to recalibrate the investment strategy of the 60/40 portfolio model. But some analysts seem to agree that more diversification in the asset mix may be the best way to mitigate the effects of the present depressing market scenario.
Some consider the international real estate market to be undervalued. The challenge here is to find the right advice as to where relatively safe opportunities in international real estate exist.
The real estate market suffers from too much hubris and happy talk that often hides the substantial risks from inexperienced investors.
We may soon see a steady flow of bond issues by governments for infrastructure investments. While the yield on these bonds may still be below what investors were used to getting in the last decade, they may offer the right risk profile for those with low-risk tolerance. Some investment managers are favouring a repositioning of portfolios towards real estate and infrastructure to help dampen volatility.
Every investor’s financial situation is different from that of anyone else. Reliable advice is needed to ensure that your financial objectives are not only realistic but also underpinned with an investment strategy that gives you the best chance of achieving your objectives.
Reliable investment advisers are those who put their clients’ long-term interests before their own short-term goals. The complexities of the present financial markets scenario are unprecedented. This makes it critically important to recalibrate your investment portfolio from the long-term view perspective.