INFLATION WORRIES AND WHAT TO DO, AND THE INTERSECTION OF ADDICTION & TECHNOLOGY
There are three simple keys to investing that you use as a framework for thinking about different types of investments and how they fit into a well-diversified portfolio. They are:
Risk: When we invest, we are putting our money at risk in the hopes of earning a return. Different investments have different levels of risk, and it's important to understand the risk profile of each investment before making a decision. For example, stocks are generally considered to be riskier than bonds, while real estate – as an asset class – is generally considered to be less risky than stocks. Of course individual real estate purchases, like a single family house or condo, can be riskier than the overall stock market and individual stocks can, of course, be riskier than the overall real estate sector. When considering any investment, think about the common real estate refrain: Location, Location, Location.
Return: Return refers to the amount of money that an investment is expected to make. Different investments have different expected returns, and it's important to understand the return potential of each investment before making a decision. For example, stocks are generally considered to have a higher potential return than bonds, while real estate is generally considered to have a lower potential return than stocks (again, talking about asset classes, not individual securities).
Diversification: Diversification is the process of spreading your money across different types of investments to mitigate risk. When you diversify your portfolio, you're spreading your risk across multiple investments so that if one investment performs poorly, the others can help to make up for it.
For example, if you only invested in stocks and the stock market crashed, your entire portfolio would be at risk. But if you diversified your portfolio with a mix of stocks, bonds, and real estate, the other investments could help to cushion the blow.
By understanding the risk, return, and diversification potential of different investments, you can make more informed decisions about where to put your money.
Keep in mind that while diversification may be a suitable strategy for you and your investment goals, it does not protect against market risk, so there is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio.
THE DANGERS OF CLOSING INVESTMENT ACCOUNTS OVER INFLATION CONCERNS
In recent years, there has been a trend among younger investors to close their investment accounts due to concerns over inflation. This may seem like a logical decision, as the rising cost of goods and services can make it feel like the value of money is decreasing. However, in reality, closing investing accounts over inflation concerns can be a poor decision that could have long-term negative consequences.
Inflation is a normal part of economic cycles and should be expected. It occurs when the overall price level of goods and services in an economy increases. While the current 12-month inflation rate is 6.5%, compared to 8% just a few months ago, remember that the long-term average of inflation for the last 100 years is about 3%.
While it may be uncomfortable to see the prices of everyday items rise, it doesn't necessarily indicate that the economy is headed for a recession or a period of prolonged economic hardship.
Another important thing to consider is that closing an investment account may mean missing out on potential gains. Whether it is the stock market or real estate market, many investors have been able to earn substantial returns by keeping their investments for a long period of time. By closing an investment account, you may be missing out on the opportunity to earn a return that could potentially offset the effects of inflation. Furthermore, closing an investment account may also mean missing out on the advantages of diversification.
Instead of closing investment accounts over inflation concerns, it may be more beneficial to adjust investment strategies to account for inflation.
WHERE TO INVEST DURING RISING INFLATION?
Generally speaking, financial professionals would likely suggest that cash is one of the worst asset classes to hold during rising inflationary periods. And in theory, there are some sectors that generally perform better than others if inflation rises.
For example, when there is high inflation, companies will pass the rising costs onto consumers, right? And it stands to reason that if you and I become more selective when we purchase goods and services, we might forgo some luxury items (think jewelry), but we will keep buying basic necessities (like bread and milk). And that explains why the Consumer Staples sector generally performs better during rising inflationary periods and the Consumer Discretionary sector generally performs worse.
ENERGY (OIL AND OIL STOCKS)
Interestingly, there is a positive correlation between the price of oil and inflation. In fact, according to the St. Louis Federal Reserve:
The graph shows a strong positive relationship between oil prices and Producer Price Index (PPI) inflation: That is, higher oil prices are associated with higher producer prices and vice versa. Specifically, the correlation between oil prices and the PPI is 0.71. This strong link likely comes from the importance of oil as an input in the production of goods.
Utilities are generally considered defensive as we all still need them (think electricity, heat, gas, etc.) no matter the inflationary environment. And since energy companies pass any higher costs onto us, they are able to maintain their profitability.
REAL ESTATE SECTOR
The Real Estate sector is often a hedge against inflation too. Consider the largest component of the sector – Real Estate Investment Trusts. REITs own and operate income-producing real estate and property prices and rental income tend to rise when inflation rises. Further, REITs are required by law to pay out at least 90% of their net earnings to shareholders annually.
Want more proof on the importance of asset allocation and diversification in one's portfolio returns? Consider the performance of the sectors just mentioned last year (save Gold):
S&P 500 Sector
Notice a pattern? Again, those variations are the epitome of sector rotation and the numbers empirically identify the importance of asset allocation and diversification for all investors.
But last year's sector performance might suggest that if inflation does indeed remain high in 2023, last year's beaten-down sectors might be worth another look.
THE INTERSECTION OF TECHNOLOGY ADDICTION AND CANCEL CULTURE
Technology addiction and cancel culture are two concerns that have become increasingly prevalent among younger investors. Technology addiction refers to the excessive use of technology, such as smartphones and social media, that can lead to negative consequences such as decreased mental health and productivity. Cancel culture refers to the phenomenon of individuals or groups being "canceled," or shunned and boycotted, for expressing opinions or taking actions that are deemed unacceptable by a particular group or community. Both concerns have the potential to cause significant harm to younger investors, both individually and collectively.
Technology addiction can be a significant problem, especially for younger investors, as they are the first generation to grow up with widespread access to the internet and smartphones. This constant access to technology can make it difficult for them to disconnect and unplug, leading to a range of negative consequences. For example, studies have shown that excessive use of social media can lead to increased feelings of anxiety and depression, as well as decreased sleep quality. Furthermore, technology addiction can also lead to decreased productivity, as individuals may find it difficult to focus on tasks and may be easily distracted by notifications and other digital distractions.
Cancel culture is another concern that has become increasingly prevalent, as social media and other digital platforms have made it easy for individuals and groups to call out and shun those with whom they disagree. While cancel culture can be seen as a way to hold individuals and groups accountable for their actions and words, it can also lead to negative consequences. For example, it can lead to self-censorship, as individuals may be afraid to express their opinions or share their thoughts for fear of being "canceled." Additionally, cancel culture can also lead to a lack of diversity in thought and ideas, as individuals may be less willing to engage in meaningful dialogue and debate for fear of being "canceled."
The concerns of technology addiction and cancel culture are interconnected, as technology has made it easier for individuals and groups to engage in cancel culture. Social media and other digital platforms have made it easy for individuals to call out and shun others for expressing opinions or taking actions that are deemed unacceptable.
To address these concerns, it is important to take steps to manage your technology use and to engage in meaningful dialogue and debate. This can include setting limits on technology use, such as turning off notifications and setting aside time to disconnect and unplug. Additionally, it is important to engage in meaningful dialogue and debate, even when there may be differences of opinion. This can help to promote diversity of thought and ideas, and can also help to prevent the negative consequences of cancel culture.
TALK TO YOUR FINANCIAL PROFESSIONAL
You might be tempted to think you can predict markets, pick winning stocks and mutual funds, or allocate properly among sectors, but investors of all generations need to understand the risks – not just be able to regurgitate a Twitter story.
Because most of the time, investors just don't have the time to perform the proper research and stay up to date on how particular investments, industries or sectors are performing, so that's usually best left to a professional. Furthermore – and maybe most importantly – your investments must fit into your overall financial plan.
Talk to your financial professional to make sure your financial plan is consistent with your goals and risk profile. Remember, you don't necessarily need what your neighbor thinks is the best investment portfolio in the world – you need an appropriate investment portfolio to help you pursue your goals. Your financial professional can help you get there.
Nothing contained herein shall constitute an offer to sell or solicitation of an offer to buy any security. Material in this publication is original or from published sources and is believed to be accurate. However, we do not guarantee the accuracy or timeliness of such information and assume no liability for any resulting damages. Readers are cautioned to consult their own tax and investment professionals with regard to their specific situations.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial professional prior to investing.
Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. All indexes are unmanaged and cannot be invested into directly.
Asset allocation does not ensure a profit or protect against a loss.
Investing in Real Estate Investment Trusts (REITs) involves special risks such as potential illiquidity and may not be suitable for all investors. There is no assurance that the investment objectives of this program will be attained.
Because of their narrow focus, investments concentrated in certain sectors or industries will be subject to greater volatility and specific risks compared with investing more broadly across many sectors, industries, and companies.
Producer Price Index (PPI) is an inflationary indicator published by the U.S. Bureau of Labor Statistics to evaluate wholesale price levels in the economy.
S&P 500 Index: The Standard & Poor's (S&P) 500 Index tracks the performance of 500 widely held, large-capitalization US stocks.
All information is believed to be from reliable sources; however LPL Financial makes no representation as to its completeness or accuracy.
This article was prepared by FMeX.
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