After an extended period of historically low interest rates, the Fed has begun to reverse course and increase interest rates to combat rising inflation, which hit a record high of 9.1% in June. The Fed opened the strategy with a modest 0.25% increase in its key rate during its March meeting, and then announced a 0.5% boost on May 4 and a 0.75% increase in June, the largest rate hike since 1994.
The Fed has signaled it was prepared to raise rates periodically throughout 2022. At their meeting in June Fed Chairman Jerome Powell noted that a “75 basis point increase is an unusually large one, and I do not expect moves of this size to be common.” Although he does expect an increase of 50 or 75 basis points at the July meeting if inflation remains overheated.
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.
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 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. …….