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Some tips for managing liquidity during turbulent periods

2022 began under a cloud of turbulence for investors. On the one hand, geopolitical tensions and high valuations have caused volatility in financial markets. On the other, price rises accelerated, weighing on daily life but also on the medium-term prospects of capital devaluation.

At times like these, it’s natural to have doubts about how to organise your finances. It is, however, useful to fully understand the risks and opportunities that are presented, as well as how making the correct choices is imperative in managing your capital. This is particularly true if you have a lot of uninvested liquidity. 

As a wealth manager, it’s an important part of our role to support investors during difficult periods. In this article, we’ll put forward some ideas to help savers manage their cash in this undeniably difficult time. 

Inflation: pay attention to devaluation

The first thing to consider is inflation, which has reached its highest level in decades. According to the Office for National Statistics, inflation in the UK reached 8.6% in August, down from 8.8% in July. It’s likely that inflation will remain high for some time. 

The clearest consequence of high inflation is the loss of the real value of cash. When you find yourself in a situation of high inflation, or a period in which inflation has exceeded the optimal level, you need to consider some strategies to protect your wealth. 

To illustrate this concept, let’s imagine you have £5,000. With that cash, you can afford 100 dinners at your favourite restaurant, to the tune of £50 per dinner. An inflation level of 2% year-on-year would push the price of your dinner to £51 within a year. This means that, with the same £5,000, you’d only be able to afford 98 dinners after a year, and hence the real value of your cash has decreased. This may seem like an insignificant dip, but fast forward 10 years and you’d be looking at £62 per dinner. 

Over a 10-year period, this kind of increase can very easily go unnoticed. Continuing the dinner analogy, however, it means your savings would only be able to get you 80 dinners, a devaluation of 20%. Fast forward another 20 years and the number of dinners drops to 67. 

Naturally, this issue is only exacerbated during periods of high inflation. If the current level of inflation, or anywhere close to that figure, were kept up then the real value of cash will devalue quickly over a period of years. 

Invest now or wait?

In short, long-term financial investment remains the best option in our opinion, giving the saver the opportunity to manage their wealth in times of high inflation. However, many investors, despite having liquidity available, delay entering the market in favour of picking the “right moment” to invest. 

If you wait for the markets to recover (or show signs of recovery), you risk missing out on the often sharp upwards trajectory that you’re looking for. After slowdowns, markets have historically tended to recover fairly quickly. 

If we look back to 2020, we remember that markets recorded one of the sharpest upticks in recent memory, following the collapse that occurred during the pandemic. This can give you an idea of how fast and unexpected market rebounds can be. Waiting for the right moment can lead to missing out on some of the markets’ best days, hindering your ability to generate long-term returns. 

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The world’s most unlucky investor 

The perfect time to enter the markets, or the bottom of the dip, remains something that no one can accurately predict. Fortunately, over a long enough time period, the effects of poorly timed entry tend to reduce. In the chart below, we simulated the performance of the most unfortunate investor possible. 

In this instance, they decided to invest £20,000 in the FTSE 100 (the same would be true of any other major index) the day before some of the biggest market crises in recent years, including the bursting of the .com bubble and the financial crisis of 2008. 

As you can see, despite the unfortunate timing, the investor is still able to generate positive returns over a long enough timescale. 

Invest little and often

Another way to limit the risk of market entry is to contact a trusted advisor and develop a plan to enter markets with “little and often” investments. This is an effective way to approach a volatile situation with less stress. 

Regular investment has a number of advantages, particularly during volatile periods. In the long run, regular contributions to your portfolio can mitigate the adverse effects of entering the markets at the “wrong” time. The entry price is spread out by repeated purchases, reducing the volatility inherent in your investing over the long term. 

Take a long-term perspective

In short, if you’re looking to manage your liquidity, you can’t avoid the issue of devaluation. Leaving your capital in cash is, in times like these, a surefire way to see the real value of those savings go down over time.

Equity valuations, on the other hand, appear to be less stressed than they were at the end of last year. At present, European equity valuations are below historical averages. While the effects of the current crises on corporate profitability are yet to be fully realised, this is something to keep an eye on going forward.

The macro outlook for the major asset classes remains positive over the long term and we believe that investing remains the best choice to manage your capital.

As ever, our team of investment consultants is here to help you build a long-term investment plan. Get in touch if you’d like to discuss your options.

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