How high-net-worth investors are handling higher interest rates

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With interest rates now at their highest level since 2008, wealthy Canadians need to read the tea leaves as much as anyone else, experts say.

But the brew can be different for ultra-high-net-worth clients, according to family offices that help manage their portfolios.

“Clients are happy to take advantage of short-term increases in interest rates, but they’re still staying the course with a lot of their other holdings,” says Jill Sing, Vancouver-based family office director and investment consultant.

When the Bank of Canada started raising its key lending rate in early 2022 to tackle post-pandemic inflation, effects included higher mortgage and commercial borrowing rates.

Sing, who manages wealth for five families and two First Nations, says some clients have taken advantage of higher rates over the short term by buying guaranteed investment certificates (GICs) or corporate bonds.

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“But clients also know that holding cash [through fixed income products] is not really a long-term proposition. They know there will be other investment opportunities in the future in other products and markets, so if they’re holding cash, they’re doing so to be ready for these opportunities,” she says.

Until the central bank puts the brakes on rate hikes, investors will need to be patient, says Neil Nisker, co-founder, executive chairman and chief investment officer of Our Family Office in Toronto.

“The problem was that we kept interest rates too low for too long, and there’s a price to pay for that. When the pandemic hit in 2020, central bankers and others had never experienced anything like it. The markets declined by 30 per cent and so they took interest rates back to zero,” he says.

“The price we’ll pay is that, just as rates stayed too low for too long, they’ll stay too high for too long,” Nisker explains.

Higher interest rates will linger because bankers and economists see them as necessary to curb inflation. The objective is to curb spending throughout the economy to put the brakes on price increases. Higher rates make it more expensive to borrow and service debt and theoretically, deter businesses from raising their prices.

The challenge is for bankers to know when to stop putting the brakes on borrowing through higher rates. If they ease up too soon, inflation will continue; while it is down in Canada from its peak of 8.1 per cent in June, 2022, it is still higher than the central bank’s 2-per-cent target.

“We have yet to see the inflation that will scare me the most [on behalf of investors] — wage inflation,” Nisker says. It may ease workers’ worries if they get paid more, but in the long term, the gains get eaten up by inflation lasting longer and prices continuing to climb.

He noted that earlier last year, U.S. Commerce Secretary Janet Yellen described inflation as “transitory.”

“But it never is transitory. Historically it’s still really high, and that’s worrisome,” he said.

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In this situation, he says his clients are keeping their portfolios underweighted in equities for now. “Our clients are doing well right now because that typical portfolio split of 60 per cent stocks and 40 per cent bonds is down to 20 per cent in stocks,” he says.

While his clients weigh whether the time is right to buy equities, and how much to weight them in their portfolios, “You still have to have a diversified portfolio, but the key is asset allocation.”

Sing agrees that maintaining a diverse portfolio with a mix of asset classes is key to retaining and managing wealth wisely. While inflation is a harsh problem for lower and middle-income people, it can also be a problem for the wealthy, she notes.

“Many high-net-worth families have their wealth tied up in businesses. Inflation affects the costs of their raw materials, the prices they charge to customers and also their business loans,” she says.

This is leading some family office clients to be more cautious and deliberate in their planning than they might be in easier times, she says.

“They’re stepping back. They’re looking more closely at their family business governance structures and making sure they have a plan in place. They want to know what plans are in place for future generations,” she says.

It’s important for high-net-worth families to balance optimism that the economy will eventually stabilize and then soar with realism that this can take an uncertain amount of time to happen, Sing says.

“If high-net-worth clients are not conservative and prudent in the way they forecast their cash flows, they can find their funds get depleted more quickly in a recession. It’s all about having the right planning and risk mitigation structure in place,” she says.

Clients with operating businesses or substantial real estate holdings did relatively well during the pandemic, but they’re still looking over their shoulders. There’s awareness that it’s not going to be as easy in days to come,” she adds.

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“Successful families plan ahead. And they’re patient. History has shown that markets do improve, but what’s more important is the time horizon that it takes. If there’s a recession, we don’t know how long or deep it will be. Our role as family offices is to protect and preserve capital whether the recession is short or long,” Sing says.