How rising interest rates can impact the stock market

[OZER]

It's been almost 15 years since the Bank of England's (BoE) meaningfully increased interest rates. They've been below 1% for over a decade. So, jitters about the Bank of England's decision to bring rates up to 0.5% are to be expected.

Generally speaking, interest rates and stocks tend to move in opposite directions. When rates rise, it should, in theory, make saving more attractive. If your savings at the bank are making a reasonable return, it becomes harder to justify the extra risks that come with investing. Plus, things like mortgages and credit card debt become more expensive, so people have less to spend. This can have knock-on effects on company profits and ultimately returns.

But before you consider if you need to take any action, if at all, there are a few things to consider.

First, the scenario above typically applies to an interest rate environment that's ahead of where we are right now. The bank's most recent hike brought rates to 0.5%. Mortgages are still relatively 'cheap' and banks have been reluctant to pass the bump on to savers so far.

More importantly, the long-term case for investing stands – even as rates rise. Between 2016 and 2018, the BoE increased interest rates from 0.25% to 0.75%. During that time, the FTSE 350 rose roughly 12%. There were ups and downs along the way, but ultimately your chances of earning a return generally rise as your investment timeline gets longer. Although there are no guarantees. You could still get back less than you invest.

Notably, this happened over a two year period. The latest rate hike came alongside rhetoric that another could be on the way, suggesting the increase could be steeper than the bank initially indicated. With that in mind, it's worth considering how a rising rate environment might impact your investments.

Some sectors are more insulated than others and some companies are better prepared to cope.

The value of growth will decline
All stocks are priced according to the cash investors expect them to generate at some point in the future.

When you buy a share, you're paying now for money you hope to receive later. Presumably, you're expecting to get more than you've put in – though that's never guaranteed. How much more depends on the discount you receive for paying now and the future prospects and demand. A lot can change.

Assuming everything else is constant, £100 in 10 years is worth £95.13 today if interest rates are 0.5%. The discount in this case is minimal, just half a percent.

But £100 in 10 years is worth just £88.32 today if rates rise to 1.25%. When rates are low, future cash flows are worth more today. As rates rise, those future flows start to be worth less in today's world.

Growth companies tend to have higher price to earnings (PE)Price to earnings (PE) tends to be the most common way to value companies. It tells you how much the market is willing to pay for each pound of earnings ratios than their peers. Investors are willing to pay a lot today for slim profits, or even losses, on the assumption that earnings will come in the future. If rates rise, the value of those future cash flows decreases. All else being equal, that's bad news for growth companies.

If the rate hike is gradual, it's fair to assume growth stocks will see a period of stagnation while valuations catch up to the underlying fundamentals. But a short, sharp increase could usher in a period of more marked volatility as value stocks gain favour.

In this scenario it's important to keep a level head and remember time is your greatest asset. Quality companies, be they growth or value, tend to come out the other side unscathed.

This article is not personal advice, if you're unsure whether an investment is right for you, seek advice. All investments and any income they produce can fall as well as rise in value so you could make a loss. Past performance is not a guide to the future. Ratios and figures shouldn't be looked at in isolation, it's important to consider the bigger picture.

[TNTHead]

Mr Bogdanoff, engage crab 21.

[fgfalll]

Buy BITCOIN

[atrejus_lasal]

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[NsAuRrWvHiAvLeS]

great

[Peng_1]

The US can lock me up rn for trying to insight a revolution

[butsnake]

Good to see discussion of Financial inclusion.    Unfortunately, this group reflects an industry that excludes the Black and Brown community as companies, investors, or other participation.  The lack of access to capital and the exclusion that exists in banking needs to be addressed in Digital assets to solve this issue.

[petarb123]

Inflation is a product of labor and pay checks not spending by the Fed and business Republicans would like to increase the labor shortage by keeping the Mexican labor their donors are bring in out of the country. The shortage probably comes because people in their 60s and 70s used the pandemic to retire. And labor shortages may not mean everyone is employed, rural people who won't go to a job are not going to be employed. The last 10 or 20% of employment are people with similar problems, some failed to be motivated and reliable maybe before high school, others say I don't want to work at Walmart or Amazon, and other personal issues that lead to a life of mostly unemployment.

[sparkey480]

What if the inflation is grow faster than the bubble? Can I call it "Slow-mo popping bubble?"

[ZoezCookiez]

The better question is can the US stop infiltration from communism.

[Springstof]

End the Fed!

[darkmaster3694]

Well said

[ethan1ali1]

All of Ms. Dixon's answers were disappointing and not to the point.

[SoulBreakerYT]

Most cryptos have no real use case. The rest are great but realistically I'm not sure the banks will let crypto flourish as it's competition for them

[dylanddog998]

As a landlord with multiple fixed rates mortgages, I really, really like inflation.