After keeping the official cash rate at near-zero levels for nearly a year and a half, the Reserve Bank of New Zealand (RBNZ) recently took the historic decision of increasing interest rates. The cash rate hike, which came after a gap of seven years, has opened a window of opportunity for investors to obtain higher income from their investments. It seems to be the right time for investors to realign their portfolios with rising interest rates to gain the maximum out of their investments.
The RBNZ’s move has brought New Zealand one step ahead in its monetary policy tightening journey, making investors concerned about the impact of this change on their investments. Rising interest rates hold the potential to affect the profitability of businesses by corroding the earnings of corporations. This, in turn, affects their stock market performance as lower revenue often translates into weaker stock market performance and low dividend payments.
However, with thoughtful decision making, investors can avoid losing out on a higher revenue stream despite increasing interest rates. In fact, investors can get more bang for their buck when interest rates are on an incline.
In this backdrop, let us discuss some key tips that can help investors take advantage of rising interest rates:
Ponder on short-term bond funds
Increasing interest rates are often accompanied by a decline in prices of fixed-rate bonds, which ultimately lowers the Net Asset Value of these bonds. Also, bond yields usually move in tandem with interest rates, which tend to surge as interest rates rise.
Investors could steer clear of long-term bonds during the rising interest rate environment. Interest rate movements significantly influence long-duration bonds, and rising yields directly affects the prices of these long-term bonds. Moreover, investors should refrain from holding onto the possibility of a fall in interest rates to win back their losses. Instead, they can opt for short-term bond funds and capture the gains from the rise in spreads.
Embrace banking and financial sector stocks
Banks and financial institutions tend to perform better during rising interest rate environment, as interest rate hike ensures high-interest income earned by these corporations. Moreover, increased rates pave the way for huge margins and massive profits on loans and financial transactions.
On the contrary, many other industries tend to perform poorly amid high-interest rates, especially those from the borrowing side of the market. Simply put, lenders find themselves being better off as money becomes more expensive due to increasing interest rates, while borrowers face a depleting gap between revenues and costs.
Plan for future rate hikes
The current environment has raised speculations over the shape of RBNZ’s policies in the coming months. Experts predict that the central bank will not just stop at the current rate hike.
With a possibility of further rate hikes in the future, individuals can lock in investments with relatively lower interest rates in the current period. In fact, this seems to be the ideal time for businesses and individuals to make purchases using credit, which has a lower-than-average interest payout. With this practice, businesses and individuals can eventually save up substantially on big purchases.
Consider healthcare and tech stocks
Healthcare and technology firms are known to hold on to their profits as retained earnings instead of paying them as dividends. Additionally, it has been historically found that healthcare and technology indices tend to perform better than other market indices during the period of rising interest rates. Given these advantages, investors can ponder on investing in technology and healthcare space, which can turn out to be safe bets for them.
Do not fear the unknown
Newbie investors often find themselves in a precarious situation, where they face difficulty deciding on the investment strategy during changing economic conditions. Similarly, some investors might fear the ongoing interest rate hike and exit the market completely.
However, investors should understand that fear-based investing could turn out to be more harmful than a change in interest rates. Besides, it is possible to build insulation around one’s investments to protect from volatile economic environments, no matter how dire the situation is.
Considering these tips and strategies, investors can ensure that their portfolio does not fall flat in the face of rising interest rates. They should also keep in mind the possibility of a future interest rate hike, given the current recovery context prevailing in major world economies, including New Zealand. Meanwhile, they can make rising interest rates a profitable opportunity by choosing the right areas to invest in.