With the Bank of England increasing interest rates to 0.75 per cent in a third back to back rise, and raising its inflation forecast to eight per cent this spring, you might be wondering what you should do to protect your investments.
It is worth noting inflation was already the highest it had been in thirty years, even before Russia’s invasion of Ukraine, which has sent energy prices soaring and caused extreme
Volatility
Despite the high rate at the moment, however, inflation is expected to fall over the next couple of years, even down to the Bank’s target of two per cent. Nonetheless, it is currently impossible to predict with any accuracy what might happen.
So, what is the best course of action? We take a look at some of the key principles and the different types of investment you might consider:
Stay diversified
Keep a balanced approach to your investments. If you are well diversified, sit tight. Even if some funds drop significantly, others may not, so focus on the overall picture. It may still make sense to have a large proportion of your investments in equities, if you have an investment timeframe of twenty years or so. Just make sure your assets are spread around different sectors, geographical regions and investment styles, as they will all perform differently. Consider which are designed for growth, and which for income.
Reduce withdrawals
Try not to make withdrawals from your portfolio at times of high volatility, as this makes it much harder for your investments to recover. The ups and downs will be more significant, so your remaining assets may struggle to get back to the original value. This is true even if a period of negative returns is followed by good returns, as you can end up locking in your losses, meaning there may not be enough money invested to meet your future needs.
Take your income from your cash reserve rather than dipping into your capital, take what income you need from a cash reserve or from dividends. It is recommended you have three to six months’ worth of expenditure in easily accessible cash, for emergencies or big ticket items. Be aware, however, you should not keep any more than this as cash because inflation will simply erode it.
Gold
Gold is often thought to be a safe haven at times of high inflation, but it can be volatile and there is no automatic link with high performance. Unlike cash or bonds, it is not so attractive when interest rates rise as it does not pay an income. Nonetheless, as it performs differently to other assets, it can be a good insurance policy if you make sure your portfolio is only composed of five or ten per cent of it.
Bonds
Review any bonds you have, particularly those of long duration, as they are vulnerable to rising interest rates. Index-linked gilts are supposed to offer some protection from inflation, but they can be priced so high, they end up not offering an attractive return.
Stock market
With the average cash ISA only paying 0.34 per cent interest, the stock market is a natural alternative if you are trying to beat inflation. Although it can be a good defence against rising prices, remember this type of investment does need to be over the long term.
Bear in mind, some stocks will withstand the ravages of inflation better than others. For example, financial stocks can do well, as banks benefit from inflation by setting their borrowing and lending rates accordingly. Similarly, the key sources of inflation, namely gas, energy and raw materials, can prove wise investments. Companies, historically described as defensive, which produce household items, tend to fare well as people continue to need them regardless.
At the other end of the scale, well-financed businesses, such as Microsoft, Alphabet and Apple, typically continue to generate high returns. As with any investment, you need to make sure it is in line with your risk appetite.
If you would like to book a meeting with one of our advisers to review your investment portfolio, do get in touch.
