Impact of Rising Interest Rates and Inflation on High-Net-Worth Individuals

High inflation and rising interest rates in global markets pose challenges for investors who rely on fixed-income investments to generate stable income. However, high-net-worth individuals (HNWIs) can adopt strategies to navigate these challenges, such as investing in floating-rate (variable rate) instruments like private credit. 

Understanding Rising Interest Rates and Inflationary Pressures

Central banks worldwide share a common goal: controlling inflation. The Bank of England, the Bank of Canada, and more recently, the US Federal Reserve have all raised base rates to curb inflationary pressures. In local markets, the Reserve Bank of Australia (RBA) has taken a more aggressive stance, implementing consecutive rate hikes to counter rising inflation.

Rising inflation has two major implications. First, the nearly forty-year bond bull market may be coming to an end. However, this is not necessarily bad news for investors relying on fixed income, as higher yields could lead to better future returns. It also means that the favorable disinflationary market environment of the past is no longer a given. Second, the correlation between bonds and equities may turn positive again—a trend historically observed when inflation exceeds 4% to 5%. While this is not entirely negative, it does indicate that investors who depend on fixed income for regular income should reconsider the traditional 60/40 growth-to-defensive portfolio allocation.

Additionally, global markets are experiencing a realignment of corporate bond yield premiums over government bonds. As central banks raise base rates and unwind assets accumulated through quantitative easing (QE), market liquidity is decreasing. Even if central banks do not actively sell the purchased bonds, they may choose not to reinvest proceeds from maturing assets. In either case, liquidity is being withdrawn from public markets.

The expectation of reduced liquidity is primarily driven by concerns over rising interest rates. If central banks tighten policy too aggressively to curb inflation, they risk triggering a recession. A recession could widen credit spreads and increase the likelihood of defaults, particularly among lower-quality corporate credit issuers. While an immediate recession appears less likely, recession risks may rise in the near future.

How Can HNWIs Seek Stable Income in This Environment?

Due to rising bond yields and widening corporate credit spreads, fixed-income investments appear more attractive today than they did several months ago. However, the outlook remains uncertain. We are still in the early stages of the tightening cycle, with further rate hikes expected and ongoing uncertainty about whether these increases will effectively contain inflation. As such, investors must take a proactive approach to ensure their portfolios are well-positioned for strong returns in a challenging global market.

One way to address some of the headwinds in the public fixed-income market is by investing in private credit. As an alternative asset class, private credit is not publicly traded and has therefore been less affected by broad market adjustments compared to public fixed-income investments. Another advantage of private credit is that its underlying asset pool is generally more diversified than publicly traded fixed-income products. In an economic downturn, a diversified private credit fund is likely to perform better than a single-asset, highly concentrated fixed-income investment, such as a government-issued bond.

Investors seeking to diversify their portfolios and mitigate inflationary pressures should explore alternative income-generating strategies such as private credit, floating-rate instruments, and diversified income streams. A well-balanced approach will help navigate the complexities of today’s evolving financial landscape.