The cost of low to negative interest rates
Bond returns have been relatively good. Year to date, local bonds have outperformed other local asset classes, while foreign bonds have outperformed foreign equities over the last 12 months. Since the start of the year, investors have experienced a remarkable slowdown in global growth and the outperformance of bonds has been supported by a synchronized global shift towards more accommodative monetary policies. There is now a 90% chance that the US Fed will cut rates over the next 6 months. So investors expect further rate cuts given the low growth environment coupled with benign inflation. But will lower interest rates eventually stimulate economic growth? This remains a puzzle as we have experienced a decade of record-low interest rates, but we are still faced with the prospect of relatively low economic growth.
The costs of negative interest rates
Of much greater concern, is the fact that the total negative-yielding debt in the world, has increased by 125% over the last 12 months. Although it might seem foolish to invest in negative-yielding bonds some investors expect rates to continue falling and bond prices to rise. In other words, capital appreciation in bond prices will offset the negative yield. But as long-term investors, we need to carefully consider the implications that this environment may have on our investments.
Firstly, we think that investors may have to budget for a prolonged period of low growth and low returns. More so because the issues that have dented global growth expectations in 2019 have been self-inflicted and remain unresolved. The uncertainty around Brexit and trade tariffs will continue to weigh heavily on markets. We think that the temptation to chase high-risk strategies will increase and high growth companies, as well as high return investments, will be valued at a premium. Secondly, investors should expect a period of high volatility because mathematically speaking, volatility becomes amplified by the effect of discounting earnings at very low-interest rates. Lastly, the impact on savers, particularly those in retirement will be significant. Low rates are not a free lunch, and the effect will be felt by retirees, through lower income from their savings balances. This will be particularly difficult to stomach as items such as medical aid premiums are increasing at inflation plus 2% to 3%.
Investing, when faced with unchartered waters, is a difficult exercise. However, we will continue to focus on the basics. In our equity portfolios, we will continue to invest in high growth companies, and we believe that these companies should benefit in this environment. But more importantly, we understand that the low rate environment cannot continue forever. Therefore, we continue to emphasize diversification and risk management when constructing our portfolios. This will ensure that relative investment returns from our investment portfolios are not adversely affected by the heightened volatility or significant interest rate risks that investors may encounter over the next 12 months.
Ndina Rabali, Teboho Tsotetsi, and Bhekinkosi Khuzwayo
Lima Mbeu Investment Managers (Pty) Ltd is an authorised financial services provider in terms of section 8 of the Financial Advisory and Intermediary Act, 2002, FSP number 49018, Registration No 2017/399814/07. This document is for information purposes only. Past performance is not indicative of future performance. The information contained herein is derived from sources which are believed to be reliable. Any opinion expressed herein is based on the presenter’s current analysis and is subject to change. This presentation does not constitute an offer to sell or a solicitation to buy any security. Lima Mbeu has a conflict of interest policy which outlines how conflicts of interest are managed. This policy, as well as additional information about Lima Mbeu’s products, is readily available upon request or on our website: www.limambeu.co.za
For more information, contact Ndina Rabali: Email: firstname.lastname@example.org
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