The Bank of England raised interest rates to 3% this week. This is the highest since 2008.
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Higher interest rates mean cash and bonds offer better returns. Therefore, it makes sense that investors also want higher stock returns.
Take Apple for example. When interest rates are 1%, I would think Apple stock is a good buy at a price that implies a 2% return.
If interest rates reach 3%, buying Apple stock at a price of 2% makes no sense to me as an investor. As a result, I should only buy if Apple’s stock price drops.
This gives the impression that higher interest rates are a bad thing for investors. But I think the opposite is true.
Lower stock prices usually mean higher returns. Mathematically, buying Apple stock at $130 can only be better than buying it at $150.
So higher interest rates are a good thing for investors like me in a way. They give us the opportunity to buy stocks when they are trading at lower prices and offering higher yields.
The impact of higher interest rates on investors, however, goes beyond equity prices. When interest rates are higher, it can make it harder for businesses to grow.
One of the ways for companies to grow is to go into debt. When debt is more expensive, companies are unable to seize growth opportunities that they might otherwise have seized.
This is one reason to think that higher interest rates are bad for business owners. But the story may not be entirely negative here.
When prices are higher, consumers’ budgets are stretched, meaning they can afford to buy less. This reduces business income.
Inflation is also a problem for businesses. When their own costs are higher, companies either have to raise prices or face lower margins, which is unattractive.
If higher interest rates can reduce the effect of inflation, that could be good news for businesses. Consequently, shareholders could benefit from higher long-term interest rates.
Overall, I think higher interest rates could be good for me as an investor. The image is not quite simple, but I think they can do me more good than harm.
The most important thing, in my opinion, is that higher rates lead to better investment opportunities. I look forward to buying stocks at lower prices as interest rates rise.
Stephen Wright holds positions at Apple. The Motley Fool UK recommended Apple. The opinions expressed on the companies mentioned in this article are those of the author and may therefore differ from the official recommendations we give in our subscription services such as Share Advisor, Hidden Winners and Pro. At The Motley Fool, we believe that considering a wide range of ideas makes us better investors.
Motley Fool United Kingdom 2022