The great fear of the interest rate turnaround

You’ve probably noticed it yourself: things are getting a little bumpier on the stock markets again. The trigger is in the USA, or more precisely in Washington: Jerome Powell, head of the US Federal Reserve and probably the most powerful man in the world. Not even Vladimir Putin can scare the markets like Powell. What is it all about?

After years of generously (some would say excessively) supplying liquidity to the financial markets, Powell is now under pressure to stem the flood of money. The side effects are becoming increasingly obvious: inflation is now returning with uncomfortable tenacity, which is causing increasing problems for poorer Americans in particular. With mid-term elections taking place in the fall, Joe Biden is also likely to more or less subtly tell the US Federal Reserve Chairman to finally do something about inflation.

And that is exactly what he has promised (or threatened, depending on your perspective) the markets: key interest rates will rise and the Fed will no longer buy bonds. Old bonds will expire, which will reduce the central bank’s balance sheet. This news was enough to trigger a correction on the US stock markets. Technology and other growth stocks were hit particularly hard. The reason for this? As a large proportion of the profits of these companies are generated in the future, they would suffer more if interest rates were to rise. After all, the higher the interest rate used to discount profits, the lower they will be – or so the often-heard story goes. It’s not wrong, but it underplays something important.

After all, who really knows how much the profits of these technology companies will increase? What if the growth is underestimated by the market? The trend towards digitalization is unstoppable and companies such as Apple, Microsoft and Logitech have regularly proven that they can reinvent themselves time and again. Who cares about slightly higher interest rates?

And what is actually to be said against companies adjusting their prices in line with inflation – or not raising them even more and expanding their margins? Moreover, it is by no means certain that interest rates will rise as much as is now expected. You and I know that forecasts are difficult, especially when they concern the future. And who knows whether the Fed chairman won’t back down if the markets rebel?

As you can see, I have some doubts about this nice, but somewhat simplistic story that higher interest rates should be so negative. Especially as the stock markets have always coped well with interest rate hikes in the past after a short, rough phase. As long as you focus on solid and not overly expensive companies, you will do well in the long term.

With this in mind, don’t let the turnaround in interest rates unsettle you!

Yours, Mark Stock©

Mark Stock is a member of the Point Capital editorial team. “I am a stock market enthusiast and am passionate about economic history. I have been following the ups and downs of the markets for years and, of course, invest myself – preferably in shares. So my name says it all. Every month, I take up what I consider to be an exciting topic. And since the focus is on the content and not on me personally, I write under a pseudonym.”