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\n\t\u201cI\u2019m a musician. The risk I take is in my chosen career path. I don\u2019t want to take risk in my investments.\u201d This was the most common remark we heard from entertainer clients for years.<\/p>\n
\n\tAnd the most common advice those musicians would receive to address their concerns was, \u201cInvest in municipal bonds. Your principal is protected, default risk is low, and you get tax-free income.\u201d For the most part, that was true\u2026 until interest rates stayed close to 0% from 2020-2022 and then rose at their fastest pace in US history since then. During that time, municipal bonds were not what they were promised to be \u2014 down almost 10% in 2022 \u2014 especially for those who thought they couldn\u2019t lose money owning them.<\/p>\n
\n\tTo be fair, barring defaults, and even with the recent price declines, municipal bonds bought prior to the rise in interest rates will give investors the return they signed up for when they bought them. But now we have artists coming to us excited that they are getting paid 5% pre-tax on cash in money market funds. However, those heady money market rates can be cut in half by taxes and they won\u2019t last forever \u2014 we suspect they won\u2019t even last much longer from here.<\/p>\n
\n\tSo, what can you do for an attractive risk-adjusted return these days while avoiding the volatility of the stock market? Let\u2019s look at some particularly interesting options.<\/p>\n
\n\tWhile past performance doesn\u2019t always translate into the future, over rolling two-year periods, high-quality intermediate municipal bonds have never lost money. Now, with interest rates at their highest levels in almost 20 years and municipalities\u2019 finances healthy, these bonds look more attractive than they have in a long time.<\/p>\n
\n\tHowever, balancing exposure to different sources of return in fixed income is important. We do not recommend just buying Treasuries or Treasury\/municipality ladders. Consider an actively managed bond portfolio (as opposed to laddering) with the flexibility to move between municipal bonds and taxable bonds based on their relative attractiveness. This allows you to maximize after-tax returns while also managing interest rate exposure.<\/p>\n
\n\tThe S&P 500 is up over 18% year-to-date (as of Dec. 4), but it\u2019s done so in a fairly volatile manner and more than half of the stocks in it are actually down for the year.<\/p>\n
\n\tFor investors concerned about volatility, they can consider reducing exposure to the market in the near-to-medium term by using a defined outcome exchange-traded fund (DOETF). Like other ETFs, these types of securities have daily liquidity and relatively low cost. But what makes DOETFs different from the index ETFs that many investors are familiar with is that they utilize options to create a specially designed payoff. For instance, recently created versions of DOETFs allow an investor to capture around 15% of any upside in stocks while not experiencing the first 15% of any market decline.<\/p>\n
\n\tSo, if the market is up 20% over the next year, investors will be up around 15%. If the market rises 8%, investors\u2019 returns will be the same. If the market is down 10%, the investors won\u2019t have any gains but also won\u2019t take any loss. And if the market has an awful year and ends down 20%, investors would only be down 5%.<\/p>\n
\n\tEvery week brings new headlines about banks cutting back lending in different areas. It raises the question, \u201cWho is lending money to businesses these days?\u201d Private debt funds.<\/p>\n
\n\tThis area has grown substantially since the financial crisis as government regulations have made it harder and costlier for banks to lend. The private markets have stepped into that void. One notable aspect of these loans is that they\u2019re made at floating rates, with financing usually made similarly. That\u2019s protected them from the run-up in interest rates, as fixed interest investments have declined in value. That\u2019s also allowed them to keep up better with inflation. Investors contemplating private credit should consider the fact that some of these strategies are only available to accredited investors or qualified purchasers and they\u2019re often illiquid, with money locked up for several years at a time.<\/p>\n
\n\tIn addition to private credit, we\u2019re seeing attractive opportunities to lend into the commercial real estate (CRE) market, partly for the same reasons as private credit (with banks stepping back) and partly for real estate-specific reasons, such as the pressure on office prices since the pandemic. However, with office being only one small piece of the overall market and with lenders having attractive bargaining power as assets are revalued and refinanced, that\u2019s an area we\u2019ve been highlighting in 2023.<\/p>\n
\n\tFinally, and further up the risk spectrum, is real estate equity. Even inside that asset class, the risks can vary. With the turbulence in the market, we\u2019re starting to see more attractive opportunities emerge in the \u201ccore plus\u201d space, which are typically well-leased, income-producing properties in good locations. They\u2019re often found in commuter suburbs in secondary or tertiary markets.<\/p>\n
\n\tLike private credit, these real estate strategies are often illiquid, and even some of the strategies which are advertised as more liquid have gated investor redemptions recently. But for investors with enough cash flowing in to meet their outflows (even in a distressed situation) and a longer time horizon, the rewards for accepting that illiquidity can be meaningful.<\/p>\n
\n\tAs always, investors should consult with a licensed investment advisor before making investment decisions. While each of the asset classes discussed here may be of interest, they are not suitable for all investors. At the same time, we recognize that having excess cash earning 5% in money market funds may feel nice for now, but it may not feel so nice looking back on things in a year\u2019s time. Investors don\u2019t need to feel tied to cash or forced to swing for the fences \u2014 there are many options worth considering in the middle ground.<\/p>\n
\n\tFinally, while we\u2019ve mostly focused on safer options here, which are meant to guard against the risk of market volatility, there\u2019s another risk that investors must weigh \u2014 the risk of running out of money during retirement. Taking too little volatility risk can potentially generate excessive depletion risk. We recommend discussing this, and other considerations, with your financial advisor.<\/p>\n
\n\tAdam Sansiveri is a senior managing director and head of the Nashville Private Client Group at Bernstein. Stacie Jacobsen is a director in Bernstein\u2019s Wealth Strategies Group. Sansiveri and Jacobsen are co-heads of the Sports, Media and Entertainment Group at Bernstein Private Wealth Management, a division of AllianceBernstein. AllianceBernstein is a leading global research and investment management firm headquartered in Nashville with over $700 billion under management and offices in 53 cities in 26 countries.<\/em><\/p>\n<\/div>\n<\/div>\n