On July 12, 2017, the Canadian central bank introduced a rate hike of 25 basis points for the first time in 7 years. Although it remains a far cry to the 10% rates our parents are used to, this rate hike could indicate what’s to come. While conventional wisdom says that an uptick in interest rates will be bad for the economy, here are a few ways an increase in interest rates will be good for consumers, investors, and businesses alike.
We typically see rates rise when the economy is doing very well. When the Fed (the US counterpart) or other central banks raise rates, its purpose is to:
- Put brakes to slow the economy by restricting the rapid borrowing of money
- Control inflation by reversing the flow of cash from the economy back into the banking sectors which reduces the money supply
- Influence consumers to place their money back into banks, causing the banks to have higher deposits
As the banking sector collects money in the form of deposits they place that money into other investments that are mostly long-term, such as purchasing mining projects and acquiring money-generating properties, and those returns will eventually translate into higher earnings for the banks which benefit their shareholders.
A steady rise in interest will benefit the banking sector since the bank rates ride on top of the central bank rates. As I write this, the likes of TD, Royal Bank, and CIBC have adjusted their rates in response to the central bank making interest rates for variable-rate mortgages and other loans — to 2.95 % from 2.70 %, effective the Thursday after the interest hike.
But how can rising interest rates benefit me?
- As rates rise steadily, you have the option to pull your money from risky investments to the safer, government-backed high interest products such as bonds and treasuries.
Which stocks should I invest in a rising interest rate environment?
- Just have to look at companies that traditionally make money in these types of environments!
- Higher rates benefit insurance companies and their stocks. Similar to banks, insurance companies collect the monthly premiums on policies, lock that money somewhere to let it grow for the long run– in places like Bonds, Treasuries, and other fixed income investments. Therefore, when interest rates rise, their returns rise. When the Fed start raising interest, it will only indicate the company’s returns will improve.
So there you have it! While we might think a interest rate hike is a bad thing for us, above were a few ideas and insights on what it means and how you can benefit from a rising interest rate environment and how you may hedge your already-existing interest-sensitive investment portfolio.