While investing can be inherently risky, the current economic uncertainty that’s facing investors around the world will be cause for concern – and this will be no different with your clients.
So, how can you guide them through this difficult period and protect their money?
It’s been quite some time since things were looking ‘normal’ for the global economy. The coronavirus pandemic has been with us for more than two years now and has wreaked havoc for the global economy.
Now, with the recovery in full swing for many countries, a new crisis has appeared in Europe. Russia’s invasion of Ukraine has heavily disrupted the stock market, with widespread sanctions imposed on Russia sending fuel prices sky high.
With inflation set to soar and another economic downturn pending, your clients will understandably be concerned about their investments.
Before digging into the ways that you, as an adviser, can help protect your clients’ investments, it’s worth examining how high levels of inflation have played out historically.
If we take the 1970s as our prime example, we can see clearly that inflation wrought havoc on investment portfolios in the decades after the second world war.
Between July 1945 and May 1979, retail prices cumulatively rose by an eye-watering 632%. Consequently, the gilt market saw undated War Loan – previously the bedrock of the most risk-averse investors’ portfolios – fall in value in nominal terms by two-thirds, inflicting a capital loss in real terms (adjusting for inflation) of 95%.
Equities, meanwhile, saw a prolonged decline, and company profits were hit by both government-imposed price controls, and costs spiralling at a faster rate than inflation due to the quadrupling of oil prices and uncontrollable wage increases.
And, in such a period, it’s worth noting that commercial property, widely regarded as a good hedge against inflation, provided no relief. Ultimately, the market collapsed, and the worst banking crisis since the 1930s ensued.
While it’s unlikely that we’ll see a repeat of the price level increase of the 1970s, prices are going up, and investors that take the risk of a repeat must recognise that the era of ultra-low interest rates may be over and fixed-interest bonds will prove toxic.
The BoE’s latest Monetary Policy Report outlines the belief that a rise in inflation resulting from the current covid-induced imbalance between escalating demand and limited supply is transitory.
Such increases in the prices of food, energy and other commodities are partly attributed to non-recurring ‘base effects’ from weak prices in the pandemic, which are not long-term considerations.
But this could be complacent. The impact of worryingly downcast monetary developments and a reported move to tolerate above-target inflation for an unspecified period are not to be underestimated.
We should learn from 1973, when oil prices surged due to embargoes from the Yom Kippur war and food prices shot up due to ‘bad weather’. These weren’t factored in the consumer price index, instead considered merely ‘special factors’ – but by 1975, prices were out of control.
The potential for market volatility is high. With the expectation of rising inflation levels paired with waning business confidence, the outlook is bleak.
Here’s how you can shield your clients from the challenges that the global economy is gearing up to face.
Ensuring your client has a diverse portfolio is arguably the most important measure to take to ensure they will hold up against a bear market.
Regardless of risk tolerance, it’s worth them being prepared to move at least a good portion of their money from options like individual stocks, stock mutual funds or exchange-traded funds (ETFs) into something safer if you see a crisis looming.
Spreading wealth across several of these categories – stocks, bonds, cash, real estate, derivatives, cash value life insurance – along with diversifying over value and growth, is arguably the most effective way of ensuring that your client has a stockpile.
A major downturn can also be an opportunity, so don’t hesitate to set your clients up to profit.
For example, if they own shares of stock that looks like it might be headed for a fall, they could sell the stock short and buy it back when the chart patterns show that it's probably near the bottom.
Alternatively, you could advise to buy put options on any stocks they own that have options or on one or more of the financial indices. These derivatives will increase enormously in value if the price of the underlying security or benchmark drops in value.
On the other side of the coin, it’s important not to have your clients jump feet first into any hasty moves.
With so much access to information and opinion, your clients can be their own worst enemies when it comes to investment decisions.
While there is plenty of negativity in the news that has implications on the global economy, careful consideration is key.
According to Rob Smith, Barclays Head of Behavioural Finance:
“Reacting to recent news despite much of it already being reflected in prices creates the buying high and selling low behaviour that we see plaguing the performance of many investors.”
If your client has any substantial debts, they might be better off liquidating some or all of their holdings and paying off the debts.
If they have lots of high interest debt, like credit card balances, then all the better to get back in the black with a stable balance sheet. Plus, paying off a mortgage is a great way of minimising monthly obligations.
The difficulty with the current global economic uncertainty, is that there is seemingly no end date. The pandemic trundles on, and the Ukraine-Russia conflict is having an enormous impact. With this in mind, it’s more important than ever for your clients to have a secure financial future.
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