On 1 October the Reserve Bank of Australia (RBA) cut the official interest rate to a new record low. In a statement, Philip Lowe, RBA governor said,
“The board took the decision to lower interest rates to support employment and income growth and to provide greater confidence that inflation will be consistent with the medium-term target.”
We spoke with Graeme Quinlan, Senior Adviser and head of the First Financial Investment Committee, about the cause and impact of the low rates.
Plus, he discusses how to maintain income from investments during this volatile time.
There’s no doubt that current interest rates are unlike anything we’ve ever experienced in Australia before. Graeme says,
“This is unprecedented territory… 1% domestically and even lower abroad… in fact, we’ve got negative bond yields in Europe.
As an adviser, I remember 8.8% term deposits from Macquarie Bank during the Beijing Olympics in 2008… it seems amazing that you could get term deposits that high, but that’s what they were!”
While there are many issues that influence interest rates, Graeme believes the cause of the decline is closely linked to the global financial crisis (GFC). He explains,
“It’s a function of the fact that we had the GFC… for the first time in history, central banks and governments intervened to a significant extent with quantitative easing… which essentially made money as cheap as possible. That lead to a period of rapidly declining rates… and to where we are now.”
Quantitative easing is a strategy used by governments to stimulate the economy. It is intended to increase the supply of money and encourage lending and investing. Central banks buy government bonds and other securities in order to shift the balance of assets owned by the private sector. This asset shift motivates banks to lend more and in turn promotes private investment.
Graeme explains how current high levels of debt are also having an impact,
“Now a 1% increase in interest rates is probably equivalent to a 5% increase back in the 80s and 90s… so I think low interest rates are here to stay.
We all know property has had a stellar run over the decade… you could argue that the number one reason for that is a structural decline in interest rates. But the real issue we have, particularly domestically, is the high level of household debt. Currently this sits at 190% of income… so that in itself means we are constrained as to how far rates can rise.
This is where having an adviser can make a lot of sense… they can help you understand the overall situation and cut through the noise. We do think there will be a lot of headlines over the next 12 months, so having a sounding board can be really valuable.”
While low interest rates do equate to lower returns, Graeme believes there are still opportunities available within the market.
“In terms of producing income, I think unfortunately we will have to get used to earning a little less income than we have in the past.
But when we look at different asset classes, the risk premiums still appear to be there. These are essentially the extra returns we are expecting to receive for the risk taken with equities, properties and other assets.
Whilst everything has come down a notch, the reward is still there to go into riskier assets like property or shares. If you retreat to cash… you will only get 1% or 2% for as far as the eye can see and that’s probably not going to give you the investment experience you need.”
Speak to your adviser
Graeme concludes his discussion with the recommendation to seek professional advice to help navigate this unprecedented territory.
“Short term, I think we need to brace for a bit of volatility. That’s probably fair to say… and it’s really good if you’ve prepared your portfolio for that volatility.
Our investment philosophy really helps to manage that risk very well. We certainly could be entering a period where market prices decline and that’s normal for risky assets… once every four to five years is pretty standard.
Bold investors actually take it as an opportunity… but for most people it’s about focusing on the long term… talk to your adviser… they are going to be the steady ship that helps you stay on course.”