---
title: Preparing Your Portfolio for Rising Interest Rates
description: Interest rates are still at historically low levels, but how do I prepare my portfolio for the possibility of rising interest rates?
image: http://www.wrapmanager.com/hubfs/images/SP500-Operating-Earnings-Q1-2013.jpg
---

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# Preparing Your Portfolio for Rising Interest Rates

Posted by [ Seton McAndrews | CFP®, Vice President Investments](https://www.letsassemble.com/wealth-management-blog/author/seton-mcandrews)  
 July 10, 2013

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Interest rates are still at historically low levels, but recent statements about quantitative easing from Federal Reserve Chairman Ben Bernanke have put the prospect of rising interest rates front and center. Many investors are now asking - how do I prepare my portfolio for the possibility of rising interest rates?

First, it’s important to understand that reducing or eliminating quantitative easing is a sign of an improving economy. Second, investors should look at how different fixed income sectors can be more or less susceptible to a rise in interest rates. And finally, investors should review their portfolios with their wealth manager, specifically the fixed income portfolio, and make adjustments as needed.

### **Markets Overreacted to Bernanke’s Statements**

We believe the markets overreacted to Ben Bernanke’s recent statements and that talk of, or any actual “tapering”, of the quantitative easing program is a positive sign. The program was never designed to be indefinite and sooner or later the economy will have to learn to stand on its own two legs. JP Morgan Asset Management feels that it is increasingly hard to justify maintaining the current level of quantitative easing given “an economy in its fifth year of recovery, unemployment down 2.4% from its peak, home prices and stock prices up sharply over the past year and financial stress clearly much lower than a few years ago.”

Other economic indicators are also pointing to an ongoing recovery. S&P 500 Earnings per Share for the first quarter of 2013 were the highest since 2001 and unemployment came in at 7.6% in June 2013.

![S&P 500 Earnings per Share Q1 2013](http://www.wrapmanager.com/hubfs/images/SP500-Operating-Earnings-Q1-2013.jpg "S&P 500 Earnings per Share Q1 2013")

*EPS levels are based on operating earnings per share. Most recently available data is 4Q12 as 1Q13 are Standard & Poor’s estimates with 99.7% of companies reported. Past performance is not indicative of future returns. Data are as of 6/30/13.*

 

Additionally, light vehicle sales are hovering right at their 20 year average, housing starts are maintaining their upward trend and real capital goods orders have come in above their 20 year average for the last few months.

Additionally, moving back to more normal interest rates could help investors, businesses and consumers decide that the economy has recovered enough and get them to increase their activities, spending, and growth projects.

Finally, it should be noted that Bernanke spoke about the *possibility* of winding down the quantitative easing program. Specifically, he stated that “our policy is in no way predetermined and will depend on the incoming data and the outlook”, meaning that Fed can maintain quantitative easing if they believe the economy needs it. We believe these comments actually help to reduce uncertainty, which is usually beneficial for the markets.

### **What Happens to Fixed Income When Interest Rates Rise?**

Tapering the current quantitative easing program could put upward pressure on long-term interest rates. It is important to keep in mind that different sectors of the fixed income market will react differently to rising interest rates.  JP Morgan Asset Management’s chart shows the price impact of a 1% rise and fall in interest rates.

![Fixed Income Treasury Rising Interest Rates](http://www.wrapmanager.com/hs-fs/hub/10700/file-215043589-jpg/images/Impact-of-1-Percent-Increase-Interest-Rate-Main.jpg "Fixed Income Treasury Rising Interest Rates")

 

This additional chart from JP Morgan shows the same price impact for various types of other fixed income. 

![Fixed Income Rising Interest Rates](http://www.wrapmanager.com/hs-fs/hub/10700/file-215498965-jpg/Impact-of-1-Percent-Increase-Interest-Rate-Alt.jpg "Fixed Income Rising Interest Rates")

*Source: U.S. Treasury, Barclays Capital, FactSet, J.P. Morgan Asset Management. Change in bond price is calculated using both duration and convexity according to the following formula: New Price = (Price + (Price * -Duration * Change in Interest Rates))+(0.5 * Price * Convexity * (Change in Interest Rates)^2). *Calculation assumes 2-year Treasury interest rate falls 0.36% to 0.00%,as interest rates can only fall to 0.00%. Chart is for illustrative purposes only. Past performance is not indicative of future results.*

 

### **Preparing Your Portfolio for Rising Interest Rates**

We believe it’s prudent for investors to review their portfolios and consider any changes recommended by their wealth managers. While the Federal Reserve is simply discussing the possibility of tapering the quantitative easing program, positioning your portfolio for rising interest rates should be considered. Interestingly, JP Morgan Asset Management notes that investors “could begin to sell bonds before the start of tapering, triggering an earlier increase in interest rates” because many are aware that reducing the quantitative easing program could put upward pressure on interest rates.

Alternatives to fixed income should also be considered. In a recent analysis, dividend manager **[Federated Investors](https://www.letsassemble.com/money-manager-research/federated_investors_inc)** found that “defensive features that are inherent in a dividend-based portfolio outperformed the broad market” during periods when interest rates rose more than 3% points. These features include stocks and sectors that are high yield, low beta and high quality.

### **Next Steps For Your Portfolio**

It’s important to plan now for rising interest rates and make sure that you are properly diversified. Give your WrapManager Wealth Manager a call at (800) 541-7774 to review your portfolio and current financial plan. If you don’t have a financial plan yet, we’re more than happy to build one with you.

 

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By **[Seton M. McAndrews, CFP](https://www.letsassemble.com/wealth-management-advisors/seton-mcandrews)******[®](https://www.letsassemble.com/wealth-management-advisors/seton-mcandrews)***

*Seton is a CERTIFIED FINANCIAL PLANNERTM professional and Vice President of Investments at WrapManager, Inc.*

---

**Sources**

JP Morgan Asset Management, Federated Investors, The Financial Times

 

 

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