Countries around the world, including Singapore, have seen inflation rising since the start of 2022 – no thanks to sustained increases in commodity prices globally from supply chain strain due to COVID-19 lockdowns and the Russia-Ukraine war.
Singapore’s Consumer Price Index (CPI) – All Items indicator rose 5.6% year-on-year in May. The areas that saw the biggest spikes were private transport (18.5%) and electricity & gas (19.9%), though anecdotally, food prices also saw significant markups.
In response to existing and anticipated inflationary pressures, the Monetary Authority of Singapore tightened its monetary policy on 14 July 2022, an off-cycle move that many observers did not expect.
The United States too has also seen domestic consumer prices rising 9.1% in June, prompting the United States Federal Reserve to also steadily raise interest rates to the highest levels for more than a decade.
Any moves by an economy as big and influential as the United States will have spill over effects in Singapore, with our open economy and status as global financial centre.
After many years of low (or virtually no) interest rate environment, investors should be aware of how high interest affect them and their various investment asset classes.
Stocks and Equities
Higher interest rates tend to have a dampening effect on the stock market. Theoretically, when lending is more expensive, public companies would need to spend more on financing and interest costs, or may scale down expansion plans. All these could eat into earnings and thus reduce dividend payouts or potential stock price upside.
In reality, even though higher interest rates may take a few months to have a tangible impact on company finances, investors might price in expectations of slower earnings growth right away from interest rate hikes.
Real Estate Investment Trusts (REITs)
High interest rates are commonly viewed negatively for REITs, since REITs rely on gearing to fund new property acquisitions and allow more profits to be distributed as dividends. More than ever, REITs managers would need to be savvy in planning purchases and sale of assets, as well as managing their interest costs.
Amid the high interest rate environment, investors may still choose to buy and hold REITs if they see growth prospects in the REIT’s particular sector, especially those that are well-managed, have healthy balance sheets, and make consistent and sustainable dividend payouts.
Bonds and Fixed Income
Rising interest rates are a double-edged sword for fixed income instruments.
On the one hand, newly-issued notes with higher coupon rates will be more attractive and might see more enthusiastic take up among investors. On the other hand, the value of previously-issued bonds may fall, since their lower coupon payouts are now less attractive in comparison.
Having said that, companies and organisations may slow down their bond issuance amidst a high interest rate environment (especially bonds with a longer maturity). Thus, you might find that investment opportunities more limited.
Properties and Mortgages
Similar to REITs, high interest rates will result in higher monthly repayments for property investors, though when that happens depend on the type of mortgage they have.
Those with floating rates will see higher repayments kick in almost immediately, while those who opted for fixed rate packages will be affected once the their fixed rate period expires. Unless rental rates also rise proportionally, property investors may see reduced rental income or even experience negative cashflow.
For new property buyers, higher mortgage rates would reduce the quantum of properties they can buy under prevailing Total Debt Serving Ratio (TDSR) rules. This might also exert a cooling effect on the property market for mass market buyers.
Fixed Deposit and Savers
Those who cannot stomach volatility and losses would be glad to know that monies parked in capital guaranteed instruments like fixed deposits and high interest savings accounts will enjoy higher returns.
However, it is important to note that any rise in interest rates returned by these products is likely to lag behind in both magnitude and timing. So, despite high mortgage and loan rates right now, we may not see significant increases in returns for fixed deposit and savings accounts for some time.
Central Provident Fund (CPF)
In a low interest rate environment, the CPF accounts’ guaranteed returns of between 2.5% to 6% is extremely attractive. With rising interest rates, other low risk instruments like the Singapore Savings Bonds, fixed deposits and high interest savings accounts may look like decent alternatives with more flexibility.
However, rather than be content with earning the (now seemingly low) risk-free rate, more CPF members may choose to invest their CPF monies under the CPF Investment Scheme (CPFIS) into approved investments.
Homeowners who may have previously chosen to service their home loans using cash in order to keep their CPF monies and earn the interest may now decide that the opportunity cost of using their CPF monies is not as significant. This would free up their cash to park elsewhere in search of higher yields.
High interest rates presents both challenges and opportunities
As we can see, a high interest rate environment is not all bad for investors. We simply need to understand how it affects various asset classes, and adjust our investment approach based on the current and future economic outlook.
It is also an opportune time to speak with a trusted, qualified financial advisor to relook your portfolio and ensure you are well-positioned to protect and build wealth for years to come.
If you need a referral or have any questions, just drop us a note at hello@nudge.sg and the team would be glad to link you up.
