Wealth Management Insights Audiocasts
Jul 14, 2022

Cash Is Losing to Inflation—Two Opportunities to Invest It

Speaker: Lisa Shalett

Transcript

Lisa Shalett: Hello and welcome to another edition of Wealth Management Insights. I am Lisa Shalett, Chief Investment Officer for Wealth Management. And today is Wednesday, July 13th, and I’m recording this from my office in Manhattan, New York.

Today let’s talk about cash. A question that’s always been part of investing—but perhaps even more top-of-mind today—is how much cash to keep relative to investments. Maybe not too much, given current levels of inflation. But the ongoing market volatility may be pushing investors to sell and end up with more cash than usual. Or perhaps you want to keep some dry powder in any case, to be able to deploy it when you spot a buying opportunity.

Considering all of that—and, of course, aside from saving for emergencies and paying off debt—how should investors think about their cash allocation in this high-inflation and high-volatility environment?

In our view, investors should be opportunistic and today be underweight cash. First, let’s talk about why.

For years, we’ve had the luxury of not having to worry about inflation, but we’re now contending with stubborn price increases that are fast eroding the purchasing power of your cash. And, as we know, to fight this, the Federal Reserve is tightening its monetary policy by raising interest rates and shrinking its balance sheet. Treasury yields have indeed moved up alongside this effort—with the two-year Treasury now yielding around 3%—but they’re far from keeping pace with inflation which just hit yet another 40-year high. Also, at last check, the average interest paid on savings accounts is just 10 basis points. Cash may be safe, but in “real” terms, meaning “inflation-adjusted,” the opportunity cost is quite high.

So then, how can we invest some of this cash? Well, here are two ideas to deploy it while potentially adding some defensive qualities to your portfolio.

First, let’s think about investment-grade bonds. These are high-quality bonds that can provide some resilience against growth concerns, while generating income. Bond prices fluctuate with interest-rate moves, but the income component can help offset that volatility. And lately, yields on investment-grade bonds look relatively attractive, having now risen to about 5% in June, their highest level since 2009. Also, for taxable fixed-income investors, the relatively high ratio of the yields on municipal bonds versus comparable Treasuries indicates some attractive value opportunity.

Now let’s turn to equities. We think dividend-paying stocks are worth a look. A staple of income-focused portfolios, they can provide limited interest-rate sensitivity on a regular, and potentially growing, income stream. Of course, you can also reinvest dividends and seek the benefit of compounding. These days, high-dividend-paying stocks are yielding around 4.2%, a whole percentage point above long-term Treasury yields. Importantly, just because a company pays dividends, it does not mean it’s necessarily a great investment. We need to be selective for companies that have strong free cash flow and track records of maintaining and even increasing their payouts through economic cycles.

There is no question that we are in a tough market environment. We continue to emphasize the need for a very well-diversified portfolio within the scope of your investing goals and your risk tolerance. We advise you pursue both defensive positions like the ones we’ve already discussed and offensive ones to potentially take advantage of some of the market dislocations that are now occurring. Also consider tax-efficient strategies across asset classes that can help you keep more of what you earn. Morgan Stanley Wealth Management can help investors navigate this environment. If you have any questions or would like to discuss these strategies for your own portfolio, please contact your Morgan Stanley Financial Advisor. And as always, thank you for listening..

Cash may be safe, but it’s losing to inflation. How can investors deploy it while seeking some defensive qualities for their portfolios? We highlight two opportunities.

Lisa Shalett is Morgan Stanley Wealth Management’s chief investment officer, a member of the Global Investment Committee and a regular contributor to CNBC, Bloomberg and other financial news outlets, where she helps sift the signal from the noise.

Visit Wealth Management Portfolio Insights for more market commentary and insights from Lisa and her team at Morgan Stanley. Find more audiocasts

Morgan Stanley Wealth Management is the trade name of Morgan Stanley Smith Barney LLC, a registered broker-dealer in the United States. This material has been prepared for informational purposes only and is not an offer to buy or sell or a solicitation of any offer to buy or sell any security or other financial instrument or to participate in any trading strategy. Past performance is not necessarily a guide to future performance. Please refer to important information, disclosures and qualifications at the end of this material.

Asset Class Risk Considerations

For index, indicator and survey definitions referenced in this report please visit the following: https ://www.morganstanley.com/wealth-investmentsolutions/wmir-definitions

Hypothetical Performance

General: Hypothetical performance should not be considered a guarantee of future performance or a guarantee of achieving overall financial objectives. Asset allocation and diversification do not assure a profit or protect against loss in declining financial markets.

Hypothetical performance results have inherent limitations. The performance shown here is simulated performance not investment results from an actual portfolio or actual trading. There can be large differences between hypothetical and actual performance results.

Despite the limitations of hypothetical performance, these hypothetical performance results may allow clients and Financial Advisors to obtain a sense of the risk / return trade-off of different asset allocation constructs.

Investing in the market entails the risk of market volatility. The value of all types of securities may increase or decrease over varying time periods.

This analysis does not purport to recommend or implement an investment strategy. Financial forecasts, rates of return, risk, inflation, and other assumptions may be used as the basis for illustrations in this analysis. They should not be considered a guarantee of future performance or a guarantee of achieving overall financial objectives. No analysis has the ability to accurately predict the future, eliminate risk or guarantee investment results. As investment returns, inflation, taxes, and other economic conditions vary from the assumptions used in this analysis, your actual results will vary (perhaps significantly) from those presented in this analysis.

The assumed return rates in this analysis are not reflective of any specific investment and do not include any fees or expenses that may be incurred by investing in specific products. The actual returns of a specific investment may be more or less than the returns used in this analysis. The return assumptions are based on hypothetical rates of return of securities indices, which serve as proxies for the asset classes. Moreover, different forecasts may choose different indices as a proxy for the same asset class, thus influencing the return of the asset class.

Equity securities may fluctuate in response to news on companies, industries, market conditions and general economic environment.

Investing in foreign markets entails risks not typically associated with domestic markets, such as currency fluctuations and controls, restrictions on foreign investments, less governmental supervision and regulation, and the potential for political instability. These risks may be magnified in countries with emerging markets and frontier markets, since these countries may have relatively unstable governments and less established markets and economies.

Investing in small- to medium-sized companies entails special risks, such as limited product lines, markets and financial resources, and greater volatility than securities of larger, more established companies.

The value of fixed income securities will fluctuate and, upon a sale, may be worth more or less than their original cost or maturity value. Bonds are subject to interest rate risk, call risk, reinvestment risk, liquidity risk, and credit risk of the issuer.

High yield bonds (bonds rated below investment grade) may have speculative characteristics and present significant risks beyond those of other securities, including greater credit risk, price volatility, and limited liquidity in the secondary market. High yield bonds should comprise only a limited portion of a balanced portfolio.

Treasury Inflation Protection Securities’ (TIPS) coupon payments and underlying principal are automatically increased to compensate for inflation by tracking the consumer price index (CPI). While the real rate of return is guaranteed, TIPS tend to offer a low return. Because the return of TIPS is linked to inflation, TIPS may significantly underperform versus conventional U.S. Treasuries in times of low inflation.

Investing in commodities entails significant risks. Commodity prices may be affected by a variety of factors at any time, including but not limited to, (i) changes in supply and demand relationships, (ii) governmental programs and policies, (iii) national and international political and economic events, war and terrorist events, (iv) changes in interest and exchange rates, (v) trading activities in commodities and related contracts, (vi) pestilence, technological change and weather, and (vii) the price volatility of a commodity. In addition, the commodities markets are subject to temporary distortions or other disruptions due to various factors, including lack of liquidity, participation of speculators and government intervention.

REITs investing risks are similar to those associated with direct investments in real estate: property value fluctuations, lack of liquidity, limited diversification and sensitivity to economic factors such as interest rate changes and market recessions.

Floating-rate securities The initial interest rate on a floating-rate security may be lower than that of a fixed-rate security of the same maturity because investors expect to receive additional income due to future increases in the floating security’s underlying reference rate. The reference rate could be an index or an interest rate. However, there can be no assurance that the reference rate will increase. Some floating-rate securities may be subject to call risk.

Yields are subject to change with economic conditions. Yield is only one factor that should be considered when making an investment decision.

Companies paying dividends can reduce or cut payouts at any time.

Asset Class Risk Considerations and Disclosures

Asset allocation and diversification do not assure a profit or protect against loss in declining financial markets.

Any type of continuous or periodic investment plan does not assure a profit and does not protect against loss in declining markets. Since such a plan involves continuous investment in securities regardless of fluctuating price levels of such securities, the investor should consider his financial ability to continue his purchases through periods of low price levels.

Because of their narrow focus, sector investments tend to be more volatile than investments that diversify across many sectors and companies.

Growth investing does not guarantee a profit or eliminate risk. The stocks of these companies can have relatively high valuations. Because of these high valuations, an investment in a growth stock can be more risky than an investment in a company with more modest growth expectations.

Value investing does not guarantee a profit or eliminate risk. Not all companies whose stocks are considered to be value stocks are able to turn their business around or successfully employ corrective strategies which would result in stock prices that do not rise as initially expected.

Rebalancing does not protect against a loss in declining financial markets. There may be a potential tax implication with a rebalancing strategy. Investors should consult with their tax advisor before implementing such a strategy.

The indices are unmanaged. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment.

The indices selected by Morgan Stanley Wealth Management to measure performance are representative of broad asset classes. Morgan Stanley Wealth Management retains the right to change representative indices at any time.

The securities/instruments discussed in this material may not be appropriate for all investors. The appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives. Morgan Stanley Wealth Management recommends that investors independently evaluate specific investments and strategies, and encourages investors to seek the advice of a financial advisor.

This material is based on public information as of the specified date, and may be stale thereafter. We have no obligation to tell you when information herein may change. We and our third-party data providers make no representation or warranty with respect to the accuracy or completeness of this material. Past performance is no guarantee of future results.

This material should not be viewed as advice or recommendations with respect to asset allocation or any particular investment. This information is not intended to, and should not, form a primary basis for any investment decisions that you may make. Morgan Stanley Wealth Management is not acting as a fiduciary under either the Employee Retirement Income Security Act of 1974, as amended or under section 4975 of the Internal Revenue Code of 1986 as amended in providing this material except as otherwise provided in writing by Morgan Stanley and/or as described at www.morganstanley.com/disclosures/dol.

Morgan Stanley Smith Barney LLC, its affiliates and Morgan Stanley Financial Advisors do not provide legal or tax advice. Each client should always consult his/her personal tax and/or legal advisor for information concerning his/her individual situation and to learn about any potential tax or other implications that may result from acting on a particular recommendation.

This material is disseminated in the United States of America by Morgan Stanley Smith Barney LLC.

Morgan Stanley Wealth Management is not acting as a municipal advisor to any municipal entity or obligated person within the meaning of Section 15B of the Securities Exchange Act (the “Municipal Advisor Rule”) and the opinions or views contained herein are not intended to be, and do not constitute, advice within the meaning of the Municipal Advisor Rule.

Third-party data providers make no warranties or representations of any kind relating to the accuracy, completeness, or timeliness of the data they provide and shall not have liability for any damages of any kind relating to such data.

This material, or any portion thereof, may not be reprinted, sold or redistributed without the written consent of Morgan Stanley Smith Barney LLC.

RSI1657818163669 07/2022

CRC#4797393 (07/2022)

View disclosures