Why everything you know about investing changes in a rising-rate world

For the first time, a generation of investors will need to deal with rising interest rates as central banks around the world battle inflation.

Inflation had all but disappeared over the last decade.
Following the scars of the global financial crisis (GFC), advancements in technology and increasing globalization, central banks have rarely seen inflation figures above their target range.
But following a combination of supply bottlenecks, armed conflict in the Ukraine and a cash splash from governments to support economies post-lockdown, spikes in inflation have occurred.
In response, the U.S. Federal Reserve raised interest rates by half a percentage point today, its biggest hike in two decades. It also signaled more hikes ahead.
Other central banks have done the same or are planning to. The Reserve Bank of Australia, for example, recently lifted rates for the first time since November 2010.
While this might be discouraging for some investors, Morningstar Investment Management’s head of portfolio Jody Fitzgerald sees this as a normal market trend.
“Changes in these rates are likely to impact the market value of assets, such as equity prices and residential real estate,” she told Finder. “However, investors shouldn’t be too short-sighted in this regard. Both inflation and interest rates will move up and down over the long-term.”

Effect of inflation on markets

Inflation has a double whammy effect on stock prices, with the costs of goods and services rising, while at the same time the price of a dollar falls.
As you might’ve noticed, the stock market is becoming increasingly focusing on inflation, and on guessing what central banks will do to fight it, leading to spikes in market volatility.

This is because stock prices are largely based on the expectation of companies’ future earnings. Higher inflation erodes the value of a dollar of earnings, making it more difficult for the market to price in a fair value for a company’s shares.
Adding to that, higher inflation increases the costs for businesses ranging from inventory right through to staffing expenses.
The companies you invest in will also have to pay more on their debts as central banks try to slow down inflation through lifting interest rates.
As such, markets fear rising inflation, which will have an impact on returns, and high interest rates, which slow down growth.

“An entire generation” may need to relearn investing

This rising inflation world will mean many investors will face challenges they might not have seen before.
Saxo Banks Australian market strategist Jessica Amir warns an entire generation may need to relearn investing.
“An entire generation of tech entrepreneurs, and tech investors who built their businesses and investment philosophies on tech and low interest rates will have to re-learn a thing or two,” Amir said.
US markets, for example, have already seen a rotation from high-growth areas like tech, where companies often rely on borrowing to feed growth, into value-stock sectors such as energy that may be more stable in the new environment. (For more on energy stocks, read “Are oil stocks recession-proof investments?“)

Long-term investors urged to stay the course

Even in a rising interest rate environment, investors might do best by sticking with their current strategy.
Firetrail’s head of investment strategy Anthony Doyle told Finder that while this is a challenging time for investors, it could actually be an opportunity to buy.
“One of the best questions you can ask yourself is ‘are you a trader or an investor?'”
“For investors, the key is to make sensible, long-term capital allocation decisions, and to stay patient,” he explains to Finder.
Doyle highlights “the big money isn’t made in the buying and selling.” Instead he highlights, “the big money is made in the waiting.”
Fitzgerald largely agrees, highlighting stocks are still a way for you to get ahead.
“The main thing to remember is that equities tend to perform better than other asset classes over the long term, which is why they form the basis of most retirement portfolios. This is unlikely to change, despite relatively high inflation currently,” she concludes.
(For more on rising rates and stocks, read “12 financial stocks for rising interest rates.”

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