If Bernanke continues to punish savers, should you change your strategy?

If Fed Chairman Bernanke continues to punish savers by holding (“for an extended period”) interest rates at extremely low levels, should you increase your risk and buy higher yielding bonds and preferred stocks? His actions seem to indicate that is what he wants you to do.

Before doing this simply by increasing risk (lower rated bonds) or extending maturities (going from short-term to long-term bonds), you should consider approaching the income portion of your portfolio with a strategy hedge funds use to reduce some of this risk. Think about both principal risk (return of principal) and market risk (volatility of your principal.)

You know that selecting strong companies or government bonds (with taxing authority) that have the financial ability to pay the principal (at maturity) plus every interest/dividend payment should reduce your principal risk.

But there are ways you can also reduce your market risk. Start by asking, “What could cause my principal value to decline during my holding period?” One big reason is inflation or an increase in interest rates.

Therefore, to hedge or minimize market risk (principal volatility), you would want to purchase a security that moves in the opposite direction of the security you purchased for income. When one security goes up in value, the other goes down. This should leave your principal “flat” while you collect the higher interest rate.

Stocks too, may require a different strategy

A protracted slow growth period for the economy will have its effect on stocks as well. It may be very difficult to increase revenues, maintain margins and earnings, etc.; so you may want to consider stocks that are not dependent on the economy for growth.

Look at companies that have a product or service whose success depends on the growth and acceptance of their product rather than on the success (general growth) of the economy. It helps if they are not limited to the U.S. economy only, but are able to sell worldwide. Also, in this environment, it might help if they do not need to raise money for the next few years.