During times of low interest rates, the prices of assets tend to rise. These assets include stocks, bonds, real estate, commodities, natural resources, and food. Much of this also has to do with the ever expanding money supply (currency devaluation); thereby, giving the appearance that asset prices are rising AKA inflation. In reality, the money has gone down in value as more saturates the economy. In this article, I will cover the history of America?s interest rates since 1980, stock market, best investments to own during rising interest rates, the best hedges, and ways to protect yourself.
Since the early 1980s, America has enjoyed consistently lower and lower interest rates. In the last decade alone, interest rates reached near zero levels. Most of the stock market rallies we saw in the 80?s, 90?s, and today all were largely thanks to record low interest rates. When interest rates are lower, money is easier to borrow, cheaper to borrow, liquidity is readily available; thereby, fueling fast expansion as businesses can leverage rapid growth not possible without these low interest rates. Also, as interest rates are lower, the money supply is expanded as with each new loan or debt instrument created, the money borrowed never existed before. Thus, the money is created out of thin air, literally. This is inflationary!
However, once inflation starts to rear its ugly head and seems out of control, central banks tend to react by raising interest rates. Higher interest rates can act as a tax on the economy since borrowing costs start to rise considerably. In an economy based on debt, this can slow things down tremendously, and create higher unemployment. On top of this, higher interest rates tend to push home prices down since borrowing costs are considerably higher, and money is harder to get.
With the debt burdened US overdue for a rate hike, the coming hike in interest rates may create higher unemployment, less liquidity, and may put some borrowers affected by the increase in default, or duress. While some pundits like Paul Krugman argue that lower interest rates and more liquidity will help keep unemployment low, it will also drive the deficit higher and higher. Yes, austerity is miserable, and will drive unemployment up even higher than it already is; however, pundits like Krugman seem to have never mentioned when the debt burden becomes too large to pay. The longer America waits to lower the national deficit and raise rates, the worse the consequences will be.
Yes, Krugman is right about the QE1 and QE2 helping to lift the economy and provide emergency liquidity; however, this liquidity will run out, and the debts will have to be repaid. Increasing the deficit to pay debt while monetizing it (printing money to repay the debt) has historically led to severe to hyperinflation, civil unrest (as in Greece), austerity, and even the collapse of empires such as the British Empire, Roman Empire, and Byzantine Empire. Unemployment is down because of the deficit spending, but the large debt burden and interest expenses will destroy the economy in the longer term. America and Japan are perfect examples of economic powerhouses struggling because of too much debt. The longer a country waits, the worse it will be. Right now America is in a position were it will be damned later if it doesn?t stop deficit spending, and damned now if we do. The question is: Are people able to handle 10 -15 years of poor economic growth? In the longer term, a debt free America would be much stronger.
Rising interest rates tend to push asset prices down, especially stocks in the financial sectors, real estate (REIT?s), utilities, longer term bonds (10 years and more), and commodity prices tend to go down as currencies increase in value. This in turn may create deflation; however, in some cases, it may not. When inflation and deflation are happening simultaneously, this is known as stagflation. Rising costs, coupled with high unemployment can be a deadly mixture for the economy.
Stocks that are typically not sensitive to interest rates are usually pharmaceuticals, biotech stocks, and non cyclical consumer staples. Short term treasury bonds are usually safe and easy to buy and sell as rates rise. Of all of the hedges during rising interest rates, higher cash levels are a must. As liquidity dries up, it?s a good idea to have as much cash or cash equivalents as possible on hand. When interest rates are low, and cash is easier to acquire, save it for when liquidity dries up. You will be glad you did as formerly expensive investments become cheap.
During stagflation, dividend paying stocks in sectors not vulnerable to interest rate hikes such as pharmaceuticals and consumer staples can provide decent protection and income, and gold can provide protection from inflation as well.
If you carry a large debt burden from the days of easy money, it is imperative that you pay off any debts that are not on a fixed rate. If any debts have adjustable rates, pay them off immediately. They may be cheap now, but when rates go up, these can push people to bankruptcy.
The most important lesson, as taught to all novice investors, is to not lose money. This means trying ones best to minimize risks, preserve capital (cash on hand), and keep debt burdens manageable and realistic. Keep a well diversified portfolio and as Warren Buffett always emphasizes, keep plenty of cash available for bad times, and for great buying opportunities. Sometimes bad times in the stock market or economy can be mean great bargains and opportunities. Sadly, most people don?t think about this when times are good. ?Be greedy when others are fearful, and be fearful when others are greedy.? (Warren Buffett).
To recap, we just covered the history of America?s interest rates since 1980, stock market, best investments to own during rising interest rates, the best hedges, and ways to protect yourself. Last, I would like to point out that although I do have experience, extensive education, training, and expertise in this area, I am not a financial advisor. By no means am I recommending any investments, and I do recommend one do their own research, consult with a financial advisor, and beware of all risks when investing. While I do use facts, I am also writing my opinion about what works best from real experience and research. I hope my article gives you some new ideas and has some useful information. Thank you for taking the time to read this.
Tags: Interest, Protect, Rates, Rising, Yourself ?
Source: http://news-society.co.cc/how-to-protect-yourself-from-rising-interest-rates/
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