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Tuesday, May 21, 2024

Alternative investments and portfolio diversification

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By Michalis Tannousis
Director of Investment Services Consulco
 

Unlike traditional investments in stocks and bonds, portfolios incorporating alternative investments have historically produced higher returns, especially in recent years. Such alternative forms of investment include, among others, mutual funds, private equity funds, collective real estate investments and speculative investment funds and real estate.

In 2023, the rise in interest rates, among other things, led to a shift towards traditional investments, with an emphasis on bonds. This trend continues to this day, as bonds now offer attractive yields, in contrast to the previous period when bank interest rates were almost zero. Cypriot investors, in the vast majority, chose the theoretically safer solution of bank deposits. However, in today's environment, this is an investment option with limited margins of return. Deposit rates in Cyprus range around 2-3%, in contrast to the USA and Britain where they reach 4-5%. Despite the pressure exerted on banking organizations to proceed with increases in deposit rates for the benefit of depositors, this was not possible. It is obvious that the high liquidity available to Cypriot banking institutions acts as a brake on any increase in deposit rates, keeping them fixed at lower levels than in the rest of Europe.

Despite the fact that the interest rate of the class of 2%-3% in Cyprus may be considered low compared to abroad, it is expected to decrease even more. This is due to the forecasts of the FED and the EKT that talk about a gradual reduction of interest rates from April 2024 onwards.

History shows that stocks tend to move up with positive returns in the first year after interest rate cuts begin. However, their future course depends on market fluctuations. While stocks can provide significant returns, they also carry the risk of negative returns.

In an environment where interest rates are trending downward, bonds can be an attractive option for investors, carrying lower risk if the investment is held to maturity. However, the commitment of the capital for long periods of time until their maturity is the main disadvantage of this type of investment, as the yield in case the bond is sold before the maturity date is linked to the current market data. This means that bonds may yield a profit on the initial investment, but the possibility of losses is also open. It is worth noting that the high yields of the newest bonds have today brought down the value of the oldest (five-year/ten-year) bonds to negative levels. If expectations for a further reduction in interest rates remain strong and economies enter a recovery path, it is possible that long-term bond yields will fall even further. An effective way to avoid all the above fluctuations is investment diversification, as it is considered a necessary investment strategy. Cypriot investors, over time, are exposed with 100% of their portfolio invested in the domestic market, either in real estate or deposits, keeping all their eggs in one basket. While forecasting can be difficult in today's economic environment, risk diversification and portfolio diversification are critical strategies to reduce risk while adding other factors that can affect returns. By investing in different geographical areas and various categories of alternative investments (stocks, bonds, collective investments) the investor enjoys a low correlation with risks and achieves his long-term investment goals.

Investors should thoroughly evaluate risk management, liquidity, returns, collateral and the country in which to invest their money. Political and economic stability, transparency, maturity, sound legislative frameworks and geopolitical developments remain important factors to consider. It is also important, before the investor makes a decision, to study extensively the investment management company, its years of operation, the experience of the people managing the investments, the degree of security as well as the collateral of the way the money is invested, as well as its long-term returns and results.

In the conditions we live in today, there are always worthy companies with significant long-term dividend yields of 5-6% per year, as well as a strong competitive advantage. The point is that investors receive correct and comprehensive information regarding these companies and the investment options they offer.

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Source: www.kathimerini.com.cy

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