Alternative Investments and Portfolio diversification

In contrast to traditional investments in stocks and bonds, portfolios incorporating alternative investments have historically offered higher returns, a trend that has become more prevalent in recent years. Such alternative forms of investment include, among others, mutual funds, private equity funds, real estate investment trusts, speculative investment funds and real estate.

Navigating Market Shifts and Investment Choices

The consecutive interest rate hikes seen in 2023 led to a shift towards traditional investments, particularly bonds. This shift continues to this day, as bonds now offer attractive returns, in contrast to the previous period when bank rates were close to zero. The vast majority of Cypriot investors opted for the, theoretically, safer option of bank deposits. However, under current circumstances, this investment option offers limited returns. Deposit interest rates in Cyprus are around 2-3% compared with 4-5% in the US and the UK. Despite the pressure on banking institutions to increase deposit rates for the benefit of depositors, this has not been possible. The high liquidity of Cypriot credit institutions evidently hinders any possibility for a rise in deposit rates, keeping them lower than in the rest of Europe.

Although the 2-3% deposit rate seen in Cyprus may be considered relatively low compared to other countries, it is expected to drop even further. Specifically, both Federal Reserve (FED) and the European Central Bank (ECB) expect a gradual reduction of deposit rates from April 2024 onwards. History has shown that shares tend to move upwards, yielding positive returns, in the first year after interest rates start to fall. However, their future trajectory depends on market fluctuations. Even though shares may generate significant revenue, they also carry the risk of negative returns.  

Evaluating Bonds as Investment Assets

In an environment where interest rates are on a downward trajectory, bonds can be an attractive option for investors, as they carry lower risk if the investment is held to maturity. However, committing capital for long periods until maturity is the main disadvantage of this type of investment, as returns – in cases where bonds are sold off before reaching maturity – are linked to market conditions at the time. This means that while bonds may yield profits on the initial investment, losses are also a possibility. It is worth noting that high yields on new bonds have pushed the value of older bonds (5-year/ 10-year) to negative levels. If the expectation for further interest rate cuts remains strong and the economies get back on a path of recovery, the returns of long-term bonds may drop even further.

The Importance of Investment Diversification

An effective way to mitigate the above market volatility is through investment diversification, a necessary step of any investment strategy. Cypriot investors have historically been exposed to market fluctuations as they often invest 100% of their portfolio in the local market, either in real estate or deposits, thus putting all their eggs in one basket. While making predictions in the current economic environment can be challenging, risk and portfolio diversification is a key strategy to reduce risk, along with other factors that may affect returns. By investing in various geographic locations and a variety of alternative investment categories (equities, bonds, collective investments), investors minimize their risks and can achieve their long-term investment objectives.

Factors to Consider in an Investment Decision

Investors should thoroughly assess risk management strategies, liquidity, returns, collaterals as well as the country where they intend to invest. Political and economic stability, transparency, maturity, proper legislative frameworks and geopolitical developments are important factors to consider. Moreover, it is crucial that investors thoroughly research the investment management company they plan to invest with, including its years in operation, the experience of the people managing the investments, the degree of security they offer, the safeguards they can provide on how the money will be invested, as well as the long-term returns and results.

Today, there are various investment management companies with a strong position in the financial industry, offering significant secured dividend yields of 5-6% per annum. It is essential for every investor to receive accurate, comprehensive, and transparent information regarding these companies and their investment products before making any decisions. This approach is crucial for successfully building wealth over time.

Michael Tannousis

Director of Investment Services

Consulco