Are Strategic Investments Possible with Low Interest Rates?

A strategic investment, in my opinion, is an asset allocation that is made with a specific goal in mind. For example, suppose you have $5000 you want to shelter against inflation for a year. That means you want to be able to buy in a year about what you could buy today. You can drop your money into a 1-year certificate of deposit that offers an interest rate that is currently better than inflation. (Aside: Good luck finding such a CD.)

A figurative image of interest rates lying low.
How should you invest your money when interest rates are low or in decline?

Most of the time you want your money to grow faster than inflation + taxes + fees in order to increase your wealth; however, a fixed-target trust fund is a way of leaving behind a legacy for your heirs without removing the incentive to produce their own wealth. In other words, if you don’t want your grand-kids to burn up their inheritance on frivolous drugs and vacations, then leave them just enough money to help them get along in life. They can decide for themselves whether they want to work hard and make a nice living.

Other types of strategic investments pursue specific growth thresholds. If you anticipate low interest rates for the next 1-2 years you can look for investments that should beat those rates, which means staying away from savings accounts and certificates of deposit. In a recent news article UK investments manager Matthew Welsh of Zurich Private Capital was quoted as saying:

I predict we will see low interest rates for the foreseeable future but this is absolutely the right course to take to aid recovery in the UK. It’s vital that the UK economy is given the time and space to grow to ensure a sustained recovery. There is no ‘quick fix’ solution – an interest rate rise now would be detrimental to the situation.

In other words, low interest rates may be bad for savers but they can be great for investors who identify up-and-coming businesses that ride the tide of new growth business trends.

Writing for Fidelity Personal Finance, in January Nick Armet notes that many investors are putting their money into short-term strategies, and he feels that “short termism is unequivocally one of the most serious behavioural biases investors must overcome in their effort to produce market-beating investment returns”. Looking at only the next 12 months’ projected growth feels safe because economic projections become less reliable over time. Stock market pundits say that the US stock market runs about six months ahead of the US economy, so thinking about long-term investments of 2-5 years calls for a very different kind of projection.

Fund managers who look at long-term growth are often focused on less developed industries and economies. For example, Ben Seager-Scott of BestInvest wrote last year: “Investment in global emerging markets such as China, India, Eastern Europe and Latin America offers investors access to much higher economic growth rates than the developed world.” Why is this? What do emerging markets offer that developed markets do not?

Population growth is one factor that drives wealth growth in these economies. But another factor is the low cost of bringing established technologies to second markets. Companies can transfer the knowledge they gained from building first markets to reducing the time it takes to build second markets. The sooner these companies reach profitability in a second market the sooner they can share the wealth with workers and investors. New wealth leads to more investment which leads to more jobs which leads to more consumer spending.

But how strategic is a long-term investment plan? If you believe in mutual fund-driven investment strategies it is very hard to be strategic. That is because mutual funds often underperform when compared to the market. Some funds do better than others and all funds have their up and down cycles. The idea behind a mutual fund is that the pooled resources of investors can smooth the tumultuous swings in asset value; and while that part is true, the smoothed performance of asset value means your fund will trail the top performing stocks most of the time.

Mutual funds can be expensive, too, so you are incentivized to keep your money invested with the same fund over the long term; but what if you choose the wrong fund? Moving your money from fund-to-fund can be very expensive. The best long-term mutual fund strategy is to place some money in market index funds. They track the leading stocks and have very low fees. At least these investments should perform about as well as main market indexes, and over time that is pretty good growth.

So experienced investors look for strategic opportunities choosing companies that have strong financials (relatively little unnecessary debt), consistent revenue growth, profits, and long-term capital investment goals. If a company is not investing in new facilities and equipment it is probably not going to grow much in the next 3-5 years. Leveraged growth is less profitable than boot-strapped growth but you have to balance the prospects for paying off debt quickly versus the limits of self-funded growth.

Strategic investment is not for casual investors. If you are not investing time and energy in learning the market forces that affect corporate growth you are probably better off placing your investment hopes in index funds. You will do well enough by those investments if you leave them alone for at least ten years. And in the next ten years interest rates may come back.

One rule of thumb for interest-rate based investing is to put some money into short-term CDs every time interest rates double (or go up 1 full percent). As long as the interest rates are climbing you can roll your expired CD investments into new CDs with higher rates. When the rates begin to slow in growth you either extend the CD investments or start moving that money into other assets.