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Content provided by Marc Pfeffer, CLS Senior Portfolio Manager

While the Federal Reserve (Fed) still seems to be shying away from raising interest rates at its next meeting in June, calls are coming from many regional Fed leaders to act quicker. James Bullard, president of the Federal Reserve Bank in St. Louis, warned recently of an asset bubble if the central bank did not raise rates soon and Loretta Mester, president of the Cleveland Fed, has been advocating a hike since February.

As I’ve written about before, I agree. It’s time for the Fed to raise rates – employment levels have recovered well, and perhaps fully, and wage pressures are starting to increase. As the Wall Street Journal noted in an April 21 article, major employers such as Wal-Mart are weighing whether to raise prices in order to offset rising wage costs in a tight labor market. “Quit rates are up, and retention rates are down,” Mark Zandi, chief economist at Moody’s Analytics, told the Journal. “That’s when you see wages increasing.”

However, despite the data, I don’t believe the Fed will raise rates any sooner than July/September. What the Fed should do and what it will do are unfortunately two very different things.

Why Hold Cash in a Zero-Rate Environment?

With interest rates set at zero, investors are increasingly wondering whether they should hold cash or cash substitutes such as money market funds. But cash still makes sense for short-term liquidity and also has several benefits for long-term investors:

  • Controls overall portfolio volatility
  • Manages fixed income allocation’s interest rate and credit risk
  • Can be used as “dry powder” to take advantage of new opportunities
  • Provides flexibility in making investment decisions

Stay Balanced (With Bonds)

Another way to maintain flexibility and security during this uncertain time is through bonds. At CLS, we believe in bond funds, which includes fixed income Exchange Traded Funds (ETFs). Bonds are more liquid, diversified, and more likely to achieve higher returns at lower volatility over time. By owning a portfolio of individual bonds, an investor can also better manage cash flows. And holding bonds to maturity provides the peace of mind that the principal will be repaid.

In this zero-rate environment, it’s easy to take risks by reaching for too much yield. But as the saying goes, “the yield is always highest before it goes to zero.” So while we wait for the Fed’s decision, now is the time to stay prudent and diversified, to continue to save and stay balanced.

 

This material does not constitute any representation as to the suitability or appropriateness of any security, financial product or instrument.  There is no guarantee that investment in any program or strategy discussed herein will be profitable or will not incur loss.  This information is prepared for general information only.  It does not have regard to the specific investment objectives, financial situation, and the particular needs of any specific person who may receive this report.  Investors should seek financial advice regarding the appropriateness of investing in any security or investment strategy discussed or recommended in this report and should understand that statements regarding future prospects may not be realized.  Investors should note that security values may fluctuate and that each security’s price or value may rise or fall.  Accordingly, investors may receive back less than originally invested.  Past performance is not a guide to future performance.  Individual client accounts may vary.  Investing in any security involves certain non-diversifiable risks including, but not limited to, market risk, interest-rate risk, inflation risk, and event risk.  These risks are in addition to any specific, or diversifiable, risks associated with particular investment styles or strategies.
Fixed Income is an investment style designed to return income on a periodic basis.  Generally, fixed income strategies invest in bonds, real estate, loans, and other types of debt instruments.  Diversifiable risks associated with fixed income investing include, but are not limited to, opportunity risk, credit risk, reinvestment risk, and call risk.  An ETF is a type of investment company whose investment objective is to achieve the same return as a particular index, sector, or basket. To achieve this, an ETF will primarily invest in all of the securities, or a representative sample of the securities, that are included in the selected index, sector, or basket.  ETFs are subject to the same risks as an individual stock, as well as additional risks based on the sector the ETF invests in. Yield is the income return on an investment. This refers to the interest or dividends received from a security and is usually expressed annually as a percentage based on the investment’s cost, its current market value or its face value.

1594-CLS-4/29/2015