Investment Banker: Investing in a Rising Rates Environment

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Lebanese investors are right to hesitate when considering potential investment opportunities.

Rising interest rates in the US, paralleled by a rally in USD against other major currencies, have had an impact on emerging markets worldwide. In Lebanon, increasing political and economic risks since Prime Minister Saad Hariri announced his resignation in November 2017 (later suspending it) has pushed many banks to raise their interest rates further, in order to discourage customers from transferring their money outside the country.

In this context of increasing risk, what could be potential investment opportunities for Lebanese investors who are seeking to diversify this risk and exposure in a global rising interest rate environment?

A rising interest rate environment is usually associated with a deceleration in economic growth and higher volatility in global markets. Prudent investment management and proper diversification are, more than ever, key requirements for investors to navigate these wobbly waters. It is crucial that they adjust their investment portfolios to minimize losses.

The most imminent step to take in this environment is reducing exposure in bonds with the highest duration, as this fixed-income segment is highly sensitive to interest rate fluctuations. The proceeds can either be left in cash that becomes more interesting as rates go up, or used to buy fixed-income instruments with a lower duration (one to three years).

It is also important to review portfolios’ equity exposure, cutting the most aggressive segments and seizing opportunities to exit the most risky investments, therefore avoiding large drawdowns in the event of a correction. This underweight in cyclical stocks is used to fund an overweight in more defensive stocks. When market conditions deteriorate, investors usually favor low volatility and value factors, along with defensive sectors such as consumer staples or healthcare.

Saradar Bank adopted this positioning for its Discretionary Investment Mandates, which allowed us to reduce drawdowns during adverse market conditions, while still outperforming our benchmarks.

It is worth noting, however, that rising interest rates also generate interesting investment opportunities. For instance, floating rate notes and inflation-linked instruments (i.e. instruments with variable interest payments) become attractive, as they result in a higher level of interest payments. A tactical overweight in these asset classes offers interesting risk-adjusted returns in the short term. This tactical shift in some advisory portfolios allowed us to take advantage of these market conditions and boost our clients’ returns.

Higher rates also facilitate the pricing of capital guaranteed structured products like capital protected notes, which could be used to offer market exposure with a minimum guarantee for the capital invested. Our relationships with top global banks allow us to access best-in-class products for our clients and we are able to offer a wide range of structured products to help clients perform in any market environment.

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