Another **Interest Rate hike and US interest Rate are now in 4.25% – 4.5% and India is now @ 6.25%
What does this mean ?? Lets try to go deeper …
Lets look at History – No body can predict what will happen next … Even Fed thought they might not be required to increase rates till 2023 , but in 2022 they already have increased rates in excess of 4% …
Yet history tell us something …
What History tells us …
Interest rates have cycles .that last between 22 and 27 years … We have one long cycle when interest rates from 1982 dropped from 20% odd to near zero in 2020 /21 … This cycle has been longer than usual …
Are we entering a new interest rate cycle … If that happen we are are new regime … All recent bias of equity returns and bonds returns will have to be thrown into garbage and one need to observe what does new IR cycle mean …
First Lets try to understand why we had long interest down cycle … or low inflation from 1980s
- Globalisation + Cheap manufacturing & service outsourcing to Asia driving down inflation …
- Discovery of Shale gas – lowering energy cost for US and balancing OPEC power
- Fall of Soviet Union thereby reducing overall cost to implement favourable policy for US …
- Productivity driven initially by technology – computers , telecom and internet –
- Adverse Demographics in Europe and Japan – which balanced high growth of Asia …
What is happening today ??
While 4 and 5 is still going strong … 1,2 and 3 points have turned for worse … so it is no longer one way street … Added to this post COVID … people work life balance priorities have changed leading to even smaller pool of labour force across world …
Hence zero interest might not return in a hurry … that means higher discount rates and lower multiples for equity earning and higher bond yields possibly ( also real yields to counter inflation expectations ) . Additionally this raises cost of capital and IRR threshold for project and lot of low returning projects may never see light of day – leading to lower revenue and earning growth
If this interest regime last for > 10 years then we may see possibly an even a decade of zero or low equity returns .
Equity return expectation has to be reset and asset allocation to other asset class need to be balanced …
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