Depending on your financial status, zero percent interest rates can be a cause for celebration (mortgage holders) or concern (self-funded retirees).
The Reserve Bank of Australia recently reduced interest rates to record lows, as we head “towards zero”. Does this spell doom for the economy? And what will this mean for you?
Doom and gloom? The 7 signs of a stagnating global economy
The ongoing tension between the US and China is just one challenge for the global economy, with slow growth, trade wars and market volatility taking hold around the world. Extreme climate events and political unrest are also impacting worldwide.
Commentators point to at least seven signs that the global economy is stagnating:
- Unresolved trade war between the US and China
- Increased share market volatility
- Two quarters of negative growth in Germany
- The potential for a No-Deal Brexit in Europe
- Weak GDP and export growth in Japan
- Economic and political unrest in Hong Kong
- Slowing economic growth in Australia
The slowdown in global growth saw the US adjust their interest rates quickly, and with the possibility of a recession looming on the horizon it’s predicted that the US Federal Reserve is likely to reduce interest rates substantially over the next year.
Towards zero percent: record low interest rates for Australia
In Australia, the Reserve Bank slashed interest rates again, reducing the official cash rate to a historic low of 1%. The RBA believes that low wages growth won’t threaten the inflation outlook, and that our economy can sustain a lower rate of employment.
This means that monetary policy (interest rates) can be lower for longer, without overheating the economy. The outlook is for interest rates to move even lower in 2020, possibly reaching lows of 0.50% - great news for borrowers, bad news for savers.
Low interest rates: a boom for investors and a bust for savers
People who have money invested in savings have been watching with dismay as interest rates have dropped to record lows over the years. As interest rates continue to fall, more capital is required to achieve the same levels of income. The numbers are sobering.
To look at it from another perspective: if you have an investment that generates an income of $50,000 per annum, then the lower the interest rate, the more valuable the investment becomes.
Bonds, shares and property have all maintained growth in the 10 years since the global financial crisis, but the same $500,000 invested without capital growth (eg a term deposit) will only be generating an income of $10,000 at 2%.
How to invest in a low return environment - and get high returns
Property and share market investors have been happy with low and declining interest rates, paying more attention to market gains than falling future rates of return. However, future returns are likely to be low, which raises questions of where it’s best to invest.
The best way to achieve higher returns is to invest in asset classes like shares and property, but in seeking higher returns investors assume higher risk. It’s important to have a balanced portfolio, and remain disciplined from an asset allocation perspective.
Are shares and property still the future of investing?
Investors should be cautious about the near term, while looking to add to exposures in market weakness. Combining low-cost index funds with carefully selected actively managed funds can reduce costs and lead to better relative performance.
Shares and property should remain part of a well-diversified investment portfolio, and are likely to provide moderate growth over the next few years. However, the expectation should be that lower returns are the new norm in a low growth, low inflation world.
There are no “one size fits all” investment solutions in a downward-trending global economy. The information above is based on a general outlook, so we recommend that you seek detailed and specific advice from a qualified financial advisor.