Fed rate hike sooner rather than later
The Open Market Committee of the Federal Reserve (FOMC), the body that determines the direction of interest rates and one that is chaired by Janet Yellen recently released their minutes taken from a regularly scheduled two-day meeting at the end of January. At that meeting, voting members decided to keep the target level at which member banks loan excess reserves to each other at between 0.50% and 0.75%. This rate, known as the Federal Funds rate, has been at historically low levels for nearly a decade, partially in response to the severe recession the economy went through during 2008 and early 2009 as well as the tepid recovery that ensued. In fact there has been only two rate hikes over the past decade, one in December 2015 and another during December 2016. This slow rate of raising rates or tightening monetary policy may quicken a bit if the minutes as well as comments from Fed Governors are any indication.
If interest rates rise continue to rise and given the tenor of the Trump Administration, consider the following advice to help you plan your financial future:
Interest rates will go higher, but given the fact that the economy is still not humming on all cylinders, this move will be gradual. Therefore, fixed income investors should favor short to intermediate term bonds versus those with longer-dated maturities as well as corporate issues versus those issued by the U.S. Government. We believe there is still value in the corporate sector and relative safety, in the sense that a rising interest rate environment is lethal to long bonds but dramatically less so to shorter term debt.
International equities will most likely stop underperforming relative to their domestic counterparts. It is easy to focus on the United States as, by any measure, it is by far, the world’s largest equity market as well as economy. The majority of assets that we manage at Fagan Associates that are invested in equities are invested in U.S. Companies and mutual funds that invest in U.S. Companies. That said, investors need to incorporate some international exposure into their asset allocation model. Include a portion of this exposure into emerging markets.
Opportunities will present themselves. The stock market has been on quite a run since the election with the Dow Jones Industrial Average rising more than ten percent. Over the next quarter or two, expect at least a five percent pullback. At this time, we believe that it is not the end of the bull market but rather a pause that will refresh.
We believe that cash is no longer king. Invest in Treasury Inflation Protected Securities (TIPS) as a hedge against inflation. Despite the negative connotation, we believe that Inflation is like rain, some is good as it creates demand for goods and services. However, too much is bad as prices of those goods and services tend to appreciate faster than our incomes, thereby destroying purchasing power. We believe that 2017 will be accompanied by a little inflation and therefore recommend either the iShares Barclays TIPS Bond (symbol TIP), an ETF that invests primarily in inflation-protected bonds or the Vanguard Inflation Protected Securities Fund (symbol VIPSX).
Continue to “barbell” your investments. Although generally speaking, we like more mature companies, those with sufficient cash flow to reinvest in their businesses as well pay dividends, it is wise to also look for faster-growers, the next blue chips so to speak. Consider Facebook (FB), Netflix (NFLX), Alphabet (GOOGL) to spice up your portfolio a bit. That said, do so only after a pullback. Please note that all data is for general information purposes only and not meant as specific recommendations. The opinions of the authors are not a recommendation to buy or sell the stock, bond market or any security contained therein. Securities contain risks and fluctuations in principal will occur. Please research any investment thoroughly prior to committing money or consult with your financial adviser. Please note that Fagan Associates, Inc. or related persons buy or sell for itself securities that it also recommends to clients. Consult with your financial adviser prior to making any changes to your portfolio. To contact Fagan Associates, Please call 518-279-1044.