Investing Expert: Living in a High Interest Rate World

Although Fed Chairman Jerome Powell announced in his 14 June 2023 press conference that there would be a pause in rate hikes, he also said that there are at least two more rate hikes to be expected this year that would add another 50 basis points to the current interest rates.

As you know, many individuals and companies struggle with the high interest rates brought about by the 500 basis point rise in the Fed funds rate from 2022 to 2023.

Rates have gone from almost zero to around 5% as the cost of lending for the banks, who have to pass that on to lenders with their own profit. So right now mortgages average around 7% when a few months ago those were hovering in the 3% range for home borrowers. Businesses that run on borrowings now contend with this increased cost which they will likely pass on to consumers and customers — unless they have a way to absorb it, which is unlikely.

As much as it sounds strange to hear, I believe it is the government's intent for businesses to suffer and people to lose their jobs. Why? Because over the past few years, especially during the pandemic, governments around the world overprinted money to pay for their different social programs, some wars, other types of spending, but most especially the handout of cash to citizens when everything stopped during the pandemic. It has led to massive debt deficits that are much larger than their GDP and tax collections.

All the oversupply of money has led to high inflation, which if not slowed down, could lead to dangerous hyperinflation like that of 1939 pre-Nazi Germany, Argentina, Greece, and other countries.

Personal savings are also at a low point, much like how the Treasury general account has a low balance these days. If the U.S. Congress had not agreed to raise the debt ceiling, a default of the U.S. on its promised payments would have led to massive problems in credibility. Lifting it however comes with its own problems, in particular the $32 trillion debt that keeps growing every day. At some point, people and institutions may realize that the U.S. can no longer pay its debts, and the whole system falls apart.

Because a lot of the world's currencies are no longer backed by gold or other precious commodities (although they still have some in their stockpiles), most of these are fiat currencies that have value because the government tells you they promise to pay you back. Fiat currency is an IOU from the government. But if you are seeing a growing inability to pay back those mounting debts, then just like a credit card company, you will at some point in the future have to cut the creditor off. Except in this case, the creditor is the US government.

What can ordinary citizens and businesses do then to help shield them from these negative events?

One is to reduce your reliance on assets that rely on a promise to pay, or an asset that is someone else's liability and move some of that to cash. Cash can mean actual cash, which is affected by inflation but is quick to deploy, and short-term treasuries. Stocks, for example, are basically price valued based on a multiple (P/E ratio) of their future earnings. Bonds are an IOU from the government with interest.

Both bonds and stocks are assets to you, but are liabilities to corporations and the governments that issue those. Try to move away from an overreliance on those, though for short-term allocation; the current short-term treasury bond yields of around 5% in May 2023 are hard to beat. Unless they keep raising rates, which hits you with a duration risk like what happened to Silicon Valley Bank and many regional banks that are holding lower interest-bearing long-term treasuries.

Both bonds and stocks may also go down if the US dollar goes down because of various factors including de-dollarization by the BRICS countries and their allies. Many countries around the world are wondering why their economies are so tied up to US political and economic developments.

You may want to add commodities like gold and silver to your portfolio. Silver is cheaper but more volatile than gold since it is also heavily used in industry. Both actually have industrial applications aside from their store of value utility. These precious commodities can somewhat shield you from the uncertainties of the months and years ahead. That's because you are holding commodities with their own inherent value. They are not "promises to pay" you in the future.

If you own or are paying for a property at the old pre-Fed hike rate, keep paying that and consider yourself lucky. Although affordability is an issue now because of higher mortgage rates, take note that there are also fewer houses available.

Stay away from commercial real estate, in particular office and retail space, for now. If you are already in it, try your best to keep your existing tenants who actually have a lot of choices, especially in the big cities where there are a lot of vacancies. If you are the office space tenant, try to negotiate better terms, particularly since you do have a lot of options.

Keeping abreast of macroeconomic trends and the things that happen daily to shape our economy is needed these days. If a complete economic recovery happens in the future with reasonable interest rates, it would be okay to resume allocating most of your resources to stocks and bonds. But at this moment, not yet.

In these uncertain times, keep some commodity assets in your treasury that won't lose value no matter what happens just to be safe.

The information provided here is not investment, tax, or financial advice. You should consult with a licensed professional for advice concerning your specific situation.