My apologies for not sharing my thoughts with you for a week or so but, like yourselves, I have been busy shaking my head and trying to make sense of it all!
As we see the localised lockdowns and curfews creeping in, whilst it is clear that the incidence rate of infections is going up at a pace, so is testing and perhaps more importantly, the one thing which is not rising as previously is the serious illness and death rate from the virus; let’s hope it stays that way.
In terms of market activity, perhaps the biggest piece of news is today’s announcement following the Bank of England’s monthly review, which confirms that they are to explore the implementation of ‘negative’ interest rates.
What will this mean for you as borrowers and investors?
Well, some countries have already moved to this process and as it is becoming clear that the economy and the inflation target of 2% is falling well short of being achieved and with the impact of job cuts likely to hit us over the coming weeks, there is an expectation that we may see negative interest rates implemented towards the latter part of this year, or more likely by February 2021.
How will this affect my mortgage?.. Well I would expect that lenders will work around this, so that there will still be an interest rate charge of some sort, even if it is only 1% or so, but it will depend very much upon whether this is viewed as a longer term plan or a shorter term attempt at a solution.
Well what about my savings?… This is probably the more relevant part for you all and as you may have noticed over the last month or so, fixed interest rates for deposits have largely disappeared from the marketplace and those that are left are scarcely reaching 1%, so the expectation of another interest rate cut has already been factored in to some extent. Therefore I’m afraid that any real growth on savings is, at best, unlikely if the bank base rate turns negative and I would not be surprised to see us having to pay a monthly fee for our current accounts either.
What about other investment sectors?….Well if we look at government and corporate bonds, which are what make up a large part of the cautious funds in which many of you are invested, lower interest rates (or negative interest rates) can have a POSITIVE effect on the value of these investments. so not at all a bad thing!
When these bonds are issued by government, they carry a fixed rate of interest within them, for example 3% per year over 10 years. They are also very secure, as they are backed by the government, slightly less so for corporate bonds, which are backed by the assets of the individual company which has raised the bond.
When interest rates fall, such as now, existing bond issues become very attractive (as they are carrying a higher rate of interest), consequently these can be bought and sold (rather like shares) and the price which can be commanded for them increases; imagine for example, if you could now purchase a government-backed bond which was offering a fixed rate of interest on it of 3%; you would probably do the sums and decide that you would willingly pay slightly over the odds to purchase it, as the growth over the remaining period, when added to the maturity value, would more than recoup your outlay. This is how bond markets work in essence and so the lowering of interest rates usually means that existing bond prices/values rise. Good news for existing holdings!
If I’ve confused the matter and you would like a chat about this though, please call me and we can certainly go through it together.
OK, well what about shares then?.. Well here’s the final part of the jigsaw and in short, who knows? Shares will react to positive economic forces and so if by reducing interest rates the economy is helped back onto its feet, then share values will undoubtedly rise so again that’s a good thing, but equally there may be casualties, as we are seeing in some sectors such as airlines.
So what are the immediate challenges for me as an investor? Well first and foremost, if you have a balance of investment risk across all sectors, that is no bad thing in the medium term, but I suspect that for a while anyway, you may have to look at moving away from bank deposits if you want to find growth potential, which of course means taking more risk overall.
At a time when we still have Brexit to navigate, as well as the current spike in covid-19 cases with all of the negativity which that breeds, risk is not a word you may want to hear too loudly; but I think that for the next month or so anyway, proceeding with caution may still be the better option; but please don’t take your eye off what is happening to your money in the bank or building society, should the base interest rate be reduced further and turn negative.
As always, I’m here and happy to talk through any thoughts that you may have regarding the above, or any other matters (capital gains tax is the hot potato for those with investment properties or large share holdings, who are looking to sell; we will see what happens when the Chancellor announces his proposals in November, but anticipate tax changes and move swiftly to avoid the impact of them if you can).