The interest rate risk for today's retiree

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How to Earn More on Your Savings

I am consistently asked by clients, friends and co-workers what the biggest risk is in today's market. When I tell them interest rates and high-quality, longer-term bonds that present a high risk and limited return, their reactions always surprise me.

Do yourself a favor and pull up a 50-year chart of the interest rates in the U.S. You will see that we have experienced falling rates for nearly 40 years now, with the exception of a few short-term bumps due to events like the long-term capital crisis in 1998. As a result, we also have experienced substantial gains through the appreciation of the bonds themselves.

When I say high-quality bonds, I am referring to government, agency, high-grade municipals and high-grade corporates (rated AA and AAA). These bonds are very sensitive to rising interest rates. The Citigroup 30-Year Treasury index lost 15 percent in 2013. In 2014, the index recovered. Consider this a "do-over" and protect yourself from this risk. Why own an investment that can lose double-digit returns while having the potential to gain very little? This is a marked change from the past three decades.

So what is an investor to do in this environment? Here are 10 suggestions when considering this interest-rate environment:

1. Shorten maturities. You can shorten the maturities of your high-quality bond holdings to less than three years duration, also known as maturity. The exception here is if you are lucky enough to own a Treasury bond paying a high coupon and you depend on that income. Just realize that if the bond is trading at a large premium, it likely will come due at par, or face value. Calculate the rate of return, as it may make sense to sell.

2. Floating-rate investments. Look into floating-rate investments where payments increase as rates rise. These include bank paper, senior secure debt and many other options.

3. Mid-grade debt. Consider mid-grade debt where credit is an equal concern, versus rate fluctuations for performance determination. I do not suggest buying concentrated positions in this asset class, but do consider a managed fund.

4. Low-grade debt. Low-grade debt where credit is a higher concern may be a good idea, versus rate fluctuations for performance determination. The same advice applies as mid-grade debt.

5. Convertible securities for yield. Many are paying equal or higher payments when compared to high-grade debt, and convertibles rise in value if the company performs well. There is equity-like risk associated with these investments, but they are likely a good candidate for a portion of the portfolio.

6. Foreign high-grade debt. You may want to consider this in countries where the rates have yet to bottom out. I would also suggest a fund or index here.

7. Emerging market debt. This can be a good strategy for a small portion of the fixed-income holdings. Returns and risk are considerably higher; therefore lower exposure is usually appropriate.

8. High-yield debt. High-yield or non-rated municipal debt, where a project behind the bonds determines success rather than the rate fluctuations, includes but is not limited to stadiums, bridges and hospital bonds.

9. Real estate investment trusts. You may also want to consider REITs and higher dividend-paying stocks as alternatives to traditional bonds.

10. Low-duration funds. Consider this for your money that is not day-to-day cash, but also not ready for long-term investment. This can fetch 0.5 percent to 1.5 percent more in return, but can lose money in some extreme environments, such as 2008 and 2009.

In short, an investor has a certain amount of risk to spend in the portfolio on the whole. If they spend a bit more in the fixed income asset classes and less in the stock and hard asset classes, but equal the total risk with better returns, doesn't that make sense? On the other hand, if an investor who stays the course in longer-term, higher-quality bonds and caps their upside while exposing themselves to substantial downside, does that make sense?

These are just a few thoughts on some not-so-obvious risks and ways to combat them. I wish you the best of luck.

Monument Wealth Management LLC, is a registered investment advisor. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for individual. To determine which investment is appropriate, please consult your financial advisor prior to investing. All performance referenced is historical and is not guarantee of future results. All indices are unmanaged and may not be invested into directly.

Copyright 2015 U.S. News & World Report

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