In recent months, global equity and bond markets have been volatile. JP Morgan reports that developed market equities fell by 3.4% in the third quarter of 2023, although year-to-date returns remained strong, at 11.6%.
One of the most common questions clients ask us during periods of volatility is “Should I move more of my portfolio into cash?”.
With interest rates reaching levels not seen since the global financial crisis in 2008, more attractive returns on traditional savings accounts can look tempting – and risk-free.
However, there are compelling reasons for your clients to remain invested, even during periods of uncertainty. Here are three.
1. Cash returns are unlikely to outpace inflation
Since late 2021, the Bank of England (BoE) has increased the base rate 14 times, from a record low of 0.1% to the present level of 5.25%. This has been largely in an attempt to rein in soaring inflation, which remains significantly above the BoE’s target of 2%.
Your clients will likely have been affected by these rate increases in two ways:
- The cost of business and personal borrowing has risen. Indeed, the Office for National Statistics reports that the monthly mortgage repayments for the average semi-detached home in the UK rose by 61% in the year to December 2022.
- Interest rates on savings products have increased.
Considering that Moneyfacts reports that savers can access a rate of 5.25% on easy access cash savings (as of 31 October 2023), it can be tempting to move funds into this relatively risk-free environment and benefit from solid savings interest.
However, even the best-paying savings accounts are unlikely to keep pace with inflation, meaning your clients’ wealth is still losing value in real terms.
- £10,000 invested a year ago at an interest rate of 5.25% would generate £525 in interest, and so be worth £10,525 now.
- Goods and services that cost £10,000 a year ago cost £10,670 today thanks to an inflation rate of 6.7%.
As you can see, holding money in cash will see a client’s spending power be reduced. Investing offers the potential for inflation-beating growth, protecting the real value of wealth.
As an example, JP Morgan reveals that US, Japanese, and European shares all returned double-digit growth between 1 January and 31 October 2023.
2. Selling turns a paper loss into an actual loss
The theory of “loss aversion” posits that humans feel the pain of losses twice as acutely as the pleasure of gains.
So, when stock markets are uncertain, it’s natural for clients to feel concerned about potential losses and to make emotional investing decisions such as retreating to cash.
However, doing this often means that clients simply turn a paper loss into an actual loss, as they remove any chance of the value of their portfolio bouncing back in the future. History tells us that markets invariably do recover in time.
Additionally, it’s often the case that some of the best days in the market immediately follow some of the worst.
Research by Schroders reveals that, if a client had invested £1,000 in the FTSE 250 index on 1 January 1986, it would have been worth £43,595 by 1 January 2021.
However, had they missed just the 10 best days in the market during that 35-year period, the value of the investment would be just £24,156.
Missing the 30 best days would see the value of the investment fall to £10,627 – less than a quarter of the value compared to remaining invested for the whole period.
3. Investing for a longer time horizon increases the chances of gains
Research into investor behaviour has revealed that, as market volatility increases, investor time horizons can often be reduced. It leads investors to make decisions based more on the here and now than on their long-term goals.
However, if your clients have years or decades until they reach their goal – perhaps their retirement – daily or weekly fluctuations in markets now may mean very little to the long-term outcome. And, remaining invested over a longer period can increase the chances of positive returns.
Research by Nutmeg clearly illustrates this. Using global stock market data between January 1971 and July 2022, they found that investing over a longer time horizon increases the chances of profits.
The chart below shows that holding an investment for around 13 years during this period increases the chance of gains to approaching 100%.
Source: Nutmeg
Investing over a 10-year period would have resulted in a 94.2% chance of making gains. This compares to 72.8% for a one-year investment and 65.6% for investing for three months.
Remaining invested – even when times are tough – can help clients to increase their chances of positive returns.
Get in touch
Working with a financial planner can add value to clients during periods of market uncertainty. We can help clients develop a financial plan that focuses on their long-term goals, and help them to stay on track to meet them.
We can also act as a sounding board, providing guidance and reassurance to clients and helping them to avoid knee-jerk investing decisions that could hamper their progress towards their financial goals.
If you have clients that would benefit from a Chartered approach, please get in touch. Email hello@sovereign-ifa.co.uk or call 01454 416653.
Please note
This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.
The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
