Many investors are questioning their heavy cash positions as interest rates on savings accounts and GICs come down.Diy13/iStockPhoto / Getty Images
As interest rates soared in recent years, clients found safety in cash vehicles, securing reliable returns without the volatility of stocks and bonds.
“It was hard not to make money with no risk, which is pretty unusual,” says Paul Shelestowsky, investment advisor at Meridian Credit Union in Niagara-on-the-Lake, Ont. “You could actually make more money with [taking on] no risk than you could by taking risk, which is not normal.”
Money market balances in the U.S. increased to more than $6-trillion from $4.5-trillion during the past year and a half, according to a report from Purpose Investments Inc. In Canada, cash in the 30 largest money market vehicles soared to more than $65-billion this year from less than $20-billion at the beginning of 2020.
Investors also jumped into high-interest savings account exchange-traded funds, for which yields increased alongside interest rates, and guaranteed investment certificates (GICs) saw renewed popularity with rates of more than 5 per cent.
It was a “no-brainer” for clients to turn to GICs in 2023 when interest rates were at their highest, says Dan Brodlieb, senior portfolio manager with The Wyndham Group at Raymond James Ltd. in Toronto.
Now, as central banks embark on an interest rate-cutting path, rates on savings vehicles are set to come down. The big question, then, is what should investors do with their cash positions?
Most market watchers expect interest rates to keep dropping into next year, Mr. Brodlieb says, while noting that it’s still a “fool’s errand” to predict interest rates.
“All of the best rates were on one- or two-year GICs that are maturing now or in the next year,” he says.
One of the more attractive investments will be high-quality dividend-paying stocks, which have been “left for dead for the last three years,” he says.
Stable industries such as banking, insurance, utilities and telecommunications will typically pay above-average dividends, he says, adding that real estate investment trusts also typically pay high dividends.
“A lot of money is going to go to these dividend stocks, and you want to be there to benefit because you get the dividend and then there’s the potential for some capital gain if they recover from what are pretty low prices,” Mr. Brodlieb says.
Jason Heath, managing director at Objective Financial Partners Inc. in Markham, Ont., notes that bonds are also expected to do well over the next year. If rates fall as expected, bonds “could produce high single-digit returns through a combination of capital growth and interest payments,” he says.
“As we saw when rates rose, bonds have an inverse relationship with interest rates. And what goes up must come down. If rates fall, bonds should rise in value,” he says.
Longer-term bonds will rise more if rates fall, he adds, but they will also fall if inflation returns and rates rise instead, which makes them riskier. “Short-term bonds are less volatile but may be more suitable for a shorter time horizon for an investor.”
Investors are still “a bit gun-shy” about bonds after several tough years during which bonds lost money as interest rates climbed, Mr. Heath says. As a result, many investors may still opt for GICs. He believes they will remain a portfolio tool for conservative investors and for short-term savings.
But given the current interest-rate environment, investors will want to reconsider the GIC term length they choose, Mr. Shelestowsky says.
“When rates are low, you want to take the shortest term so that as rates go up, you can ride it and lock in when rates are higher. We’ve passed that point now,” he says.
For example, in late September, Meridian’s one-year GIC was offering 4 per cent interest and its five-year rate was 3.5 per cent, he says. “Usually, you get paid more to lock in longer. We’re in an inverted yield curve in which you get paid less to lock in longer.”
While investors may think it’s logical to take the highest rate, the danger is that interest rates will be lower a year from now when the GIC comes due. Investors could be renewing at 3 per cent instead of staying at 3.5 per cent if they chose the lower, five-year rate, Mr. Shelestowsky says.
“Don’t just look at the best rates. Look at where we are going to be a year, two years, and three years from now and maybe even hedge your bets.”
While some investors may be tempted to sit with cash on the sidelines waiting for a recession and the buying opportunities that come with it, Murray Leith, chief investment officer at Odlum Brown Ltd. in Vancouver, advises against that approach. There would have to be a massive correction to make up for money left on the table by not participating in the stock market.
Likewise, investors go overboard in shifting their money into stocks. If the stock market does experience a correction, they could be forced to sell assets at a loss or draw down to meet unexpected needs.
“There’s still a place for cash and fixed income in a portfolio, and that doesn’t change because interest rates ebb and flow,” Mr. Leith says. “You still need that ballast in your portfolio to meet spending needs and unexpected expenses.”
Sign up for the Globe Advisor weekly newsletter for professional financial advisors. For more from Globe Advisor, visit our homepage.