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Market downturns may prompt your clients to try to minimize their risk as much as possible. While that’s understandable, that approach may itself be more risky, since it could potentially impede their goals.
From knowing which stocks could do well in a recession, to having insights into where you could put your money right now, here are some key reasons why it’s important to think about moving your clients’ cash off the sidelines.
1. Your clients may lose potential gains if they reallocate from equities to cash.
If your clients are tempted to pull back on their equity allocations, consider the risks of not being invested when the markets start to recover. In order to hit their investing goals, it’s essential that they find the right balance between too much and too little equity exposure.
The risks of moving in and out of equities during market uncertainty
Risk comes from both sides; too much equity exposure may increase the risk of loss, whereas not enough exposure may cause "shortfall risk."
Past performance is no guarantee of future results. It is not possible to invest directly in an index. All indexes are unmanaged. Stocks: S&P 500 Index return. Bonds: Barclay’s U.S. Aggregate Bond Index return. All return data above based on a starting wealth level of $100,000 with no subsequent contributions or redemptions. Investor Portfolio: stock allocation was reduced from 90% of total assets to 20% of total assets on Dec. 31, 2008, and then stock allocation was increased from 20% to 90% of total assets on June 30, 2013. This adjustment in stock allocation reflects a consistent pattern of 401(k) plan participant behavior for a sizable number of participants in defined contribution plans administered by Fidelity Investments. Wealth Reference Target: a proxy 7% rate of return that reflects the average historical returns for a portfolio of stocks and investment-grade bonds. Returns in charts reflect hypothetical portfolio outcomes from 1996-2022 using actual market returns. Source: Standard & Poor’s, Barclay’s Capital, Fidelity Investments, as of 12/31/2022.
2. Fleeing to cash during high inflation may produce lower returns versus maintaining a diversified portfolio.
In periods of high inflation, your clients may want to move to what they assume will be the safest place: cash. But our data shows that a diversified portfolio of U.S. equity, international equity, and bonds beats an all-cash portfolio. And that goes for both high and low inflation periods.
Diversification is essential, even at the height of inflation
Periods of high inflation tend to lead to greater volatility and a challenging market landscape. Historically, however, fleeing to cash once inflation was already high failed to provide better returns over medium- and long-term holding periods. Over the past century, holding a balanced, diversified portfolio when inflation had already hit 4% (or above) far surpassed cash returns over the subsequent 3- to 10-year periods.
Past performance is no guarantee of future results. Diversification does not ensure a profit or guarantee against a loss. It is not possible to invest directly in an index. Balanced Portfolio: 42% Domestic Equity—Dow Jones U.S. Total Stock Market Index; 18% Foreign Equity–MSCI ACWI ex USA Index; 35% Investment-Grade (IG) Bonds–Bloomberg U.S. Aggregate Bond Index, 5% Cash–Bloomberg 1–3 Month T-Bills. Inflation: 12-Month rolling CPI-Urban Index. Returns are calculated starting in inflation period but include all subsequent periods for their holding horizon. Source: Bureau of Labor Statistics, Haver Analytics, and Fidelity Investments (AART). Asset class total returns are represented by indexes from the following sources: Fidelity Investments, Bloomberg, ICE BofA, and a Fidelity Investments proprietary analysis of historical asset class performance, which is not indicative of future performance, as of 4/30/22.
3. Bonds have outperformed cash after the Fed halts rate hikes.
With compelling yields and attractive valuations, bonds are competitively positioned right now. And with data suggesting a mild recession is possible before year end, bonds can help you manage volatility.1 Equally important today as you consider positioning your clients defensively for what may lie ahead: bonds have historically performed better than money markets after the Fed stops raising rates.
Bonds have tended to outperform cash, post-Fed rate hikes
The year after a period of rising rates brought improved returns for bonds relative to cash. In 7 out of 8 instances, bonds outperformed cash over the 12-month period following the end of the federal funds rate hike cycle—by an average of 380 bps.
Total Returns 12 Months After End of Fed Funds Rate Hike Cycle
1. Fidelity Viewpoints, Is recession down the road, June 21, 2023
*These ETFs are different from traditional ETFs. Traditional ETFs tell the public what assets they hold each day. These ETFs will not. This may create additional risks for your investment. For example, you may have to pay more money to trade the shares of these ETFs. These ETFs will provide less information to traders, who tend to charge more for trades when they have less information; the price you pay to buy ETF shares on an exchange may not match the value of each ETF's portfolio. The same is true when you sell shares. These price differences may be greater for these ETFs compared to other ETFs because they provide less information to traders; these additional risks may be even greater in bad or uncertain market conditions; each ETF will publish on Fidelity.com and i.Fidelity.com a "Tracking Basket" designed to help trading in shares of the ETF. While the Tracking Basket includes some of the ETF's holdings, it is not the ETF's actual portfolio. The differences between these ETFs and other ETFs may also have some advantages. By keeping certain information about the ETFs secret, they may face less risk that other traders can predict or copy their investment strategy. This may improve the ETFs' performance. However, if the investment strategy can be predicted or copied, this may hurt the ETFs' performance. For additional information regarding the unique attributes and risks of these ETFs, see section below.
Active Equity ETFs: The objective of the actively managed ETF Tracking Basket is to construct a portfolio of stocks and representative index ETFs that tracks the daily performance of an actively managed ETF without exposing current holdings, trading activities, or internal equity research. The Tracking Basket is designed to conceal any nonpublic information about the underlying portfolio and only uses the fund's latest publicly disclosed holdings, representative ETFs, and the publicly known daily performance in its construction. You can gain access to the Tracking Basket and the Tracking Basket Weight overlap on Fidelity.com or i.Fidelity.com. Although the Tracking Basket is intended to provide investors with enough information to allow for an effective arbitrage mechanism that will keep the market price of the Fund at or close to the underlying NAV per share of the Fund, there is a risk (which may increase during periods of market disruption or volatility) that market prices will vary significantly from the underlying NAV of the Fund; ETFs trading on the basis of a published Tracking Basket may trade at a wider bid/ask spread than ETFs that publish their portfolios on a daily basis, especially during periods of market disruption or volatility, and, therefore, may cost investors more to trade, and although the Fund seeks to benefit from keeping its portfolio information secret, market participants may attempt to use the Tracking Basket to identify a Fund's trading strategy, which, if successful, could result in such market participants engaging in certain predatory trading practices that may have the potential to harm the Fund and its shareholders.
Lead Portfolio Strategist
Portfolio Solutions Consultant
Portfolio Solutions Consultant
Portfolio Solutions Consultant