RECORD LOW INTEREST RATES HELP INFLATE THE STOCK MARKET
“Time is money” is an expression we have all heard. Its easy to see what it means by looking at the concept of interest rates: you give a bank money and for the time they borrow that money they will pay you. If you need to borrow money, you need to pay someone for the privilege of using their money for the time period that you use it.
Until now.
The chart below (from here) shows that interest rates are now the lowest in recorded history. They are essentially zero and incredibly, if you are unfortunate to live in Japan, Sweden, or Switzerland you are experiencing negative interest rates which means you have to actually PAY a bank money to deposit your savings with them. Negative interest rates are something that could happen in a lot more countries some day, including the USA.
There is a lot of uneasiness in the the stock market right now with many “experts” predicting something terrible will happen. The market is extremely overpriced they say, and the only rational direction is down. While that may be the case, interest rates are going to continue to help the market for the foreseeable future.
Low Interest Rates = More Money Going Into Stocks
One of the reasons the market is near an all time high is the sudden popularity of corporate buybacks. Within the last couple of years, more companies are buying back their own stock than ever before. When companies buy their own stock back (and usually it is done with large sums of money) it theoretically helps the stock price stabilize or go up.
But one of the longest running reasons for the market’s resilience is that interest rates have been low for many years now and that means people are forced to buy stocks if they have any hope of realizing a meaningful return. The years of risk free steady 4% to 6% interest rate returns from banks and Treasury bills we saw in the 1970’s and 1980’s are long gone. In fact, many investors are too young to even remember the time with a person could get a 5% return with no risk.
In 2016 and beyond, if you hope to get 5% back on your savings you need to take a long hard look at the stock market (and the risk that comes with it). There just isn’t any other way right now and we are experiencing stock all time highs which correspond to interest rate all time lows. There is a definite correlation between the two.
Low interest rates alone are not enough to prop up the stock market. But they help and that is why every time it seems like the Fed might raise rates, the stock market goes down. Investors realize that if rates do start to head back up, stocks and the risk they carry with them will become less appealing. But it seems to me that even if interest rates do eventually start to inch higher, they may not ever get back to the good old days of an easy 5% return. At least not in my lifetime.
