March 17, 2023

Categories: Finance - Investment

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To gain answers to this big question, let’s break it up into smaller ones:

What is the Fed?

The Federal Reserve (Fed for short) is the central bank of the United States – one of the most complex institutions in the world. The Fed key interest rate impacts how much commercial banks charge each other for short-term loans, in turn determining how much it costs businesses and consumers to borrow money.

What does it mean for businesses and consumers?

Cheap borrowing costs can be the main pull factor for businesses choosing to hire new workers or make new investments. High interest rates, however, can drive both businesses and consumers to pull back on big-ticket purchases such as buying property, business decisions such as hiring and even making credit card payments. Hence, the Fed rate can affect all aspect of the economy and society-at-large.

How does it affect Singapore?

Interest rates in Singapore closely track interest rates in the US. On a day-to-day basis, higher interest rates can mean that car loans and home mortgages become more expensive.

On the investment front, it can also bring about big impact. The biggest effect of rising interest rates is invariably on the fixed income or the bond market. For example, yields of Singapore government bonds, which have been trending downwards since the start of 2023, headed lower a day after the United States Federal Reserve dialled in its smallest adjustment to interest rates since March 2022.

Generally speaking, shares of tech companies (also can be thought of as growth stocks) may not perform well in a high interest rate scenario. The current value of a growth stock is determined by its future earning capacity. When interest rates climb, the future earnings capacity of these stocks diminishes because borrowing capital becomes more expensive, leading to margin erosion.

On the flip side, higher interest rates also mean that your cash savings can be put to work harder for you. But is it really wise to go all-in on cash and drop your investments? In the long run, it may not pan out the way you imagined.

How much will the Fed raise rates?

To gain some clarity on the direction, you first need to know about the “Fed dot plot”, which shows the Fed’s outlook for interest rates going forward.

Each “dot” represents where each Fed official thinks the rate should be.

Image credit: Federal Reserve

  • By end of 2023, rates may climb to 4.5% – 4.75%.
  • For 2024, Federal Reserve Bank of Kansas City President Esther George has raised her forecast over 5%.
  • Beyond 2025, interest rates are predicted to settle at 2.5%.

Essentially, you can see that the interest rate high shows few signs of abating – at least until end of 2024.

So, what to do next?

A volatile market and soaring interest rates can be scary – but are not reasons to halt your plans. A good mix of asset allocation is the key to staying on top of your fight against inflation. To find out more, I would be happy to speak with you to see how you can adjust and strengthen your portfolio.

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