Have we been suffering/benefitting from Low Interest Rate Addiction - or "LIRA" - for too long?
On Wednesday, the US Equity Markets dropped notably, with the DOW down 832 points (3.1%) to 25,599, 4.6% below its high on October 3rd, and the S&P 500 down 3.3%, its 5th consecutive session of decline and longest losing streak in almost 2 years. Overnight Asian and European markets fell too and futures show more drops ahead. Super-low interest rates have been rising more steadily recently and most attribute yesterday's equity markets drop to this inevitability. Over 70% of investors recently surveyed were EXPECTING this correction. The Fed has made no secret of its intent to raise interest rates.
Many consider some assets overvalued. Housing prices have been impacted in some parts of the country - especially on the high end - by the combination of rising rates and rising home prices....along with a lack of new supply. Equity markets have soared over the past three years, the Nasdaq is up about 35% from 3 years ago....even after yesterday's drop. The 10-year yield, which incorporates expectations for interest rates, inflation, economic growth, and other factors, rose to 3.227% last Friday, a 7-year high, as investors began to anticipate that the Fed would further raise rates. Interest rates usually rise when there are solid indicators of low unemployment, rising inflation and economic growth.
In the middle of 1981, a 30-year fixed rate mortgage was around 18.45%. Today it sits around 4.87%. The low was around 3.35% in 2012. Higher interest rates impact mortgages, but they also impact borrowing costs across the board that can negatively impact corporate profitability. Total outstanding non-financial corporate debt has increased by over $2.5 trillion (about 40%) since its 2008 high, which was already a dangerously high level in its own right. Higher rates impact developers who have to pay more for borrowing capital. Hopefully recently lowered corporate tax rates offset this.....even though the US added $1.5 trillion to pay for this. We all own a portion of that debt. While some individuals will pay more for adjustable mortgages, credit card debt, auto loans, home equity loans, student loans, etc, others will earn more on their cash deposits
So as much as these rate hikes can be a bit alarming and cause notable equity market corrections, try to view them as the normalization of unrealistic rates rather than the headlines that speak of SOARING rates. Buyers and sellers get jittery around these market corrections: How deep they are matter more than anything. It is best to pause and watch before drawing any big picture conclusions. Corrections in any market are an inevitability when markets soar. According to the FED, you should expect to see more rate hikes over the coming 12 months.
LIRA - Low Interest Rate Addiction - like any addiction, delivers some pain and acknowledgment of history and facts to be able to recover and adjust to a new 'normal'.
Addiction is never healthy.
-Marian Marsten Rosaaen, Leonard Steinberg