Are You Better Off With Low or High Interest Rates?
The past few months have been characterized by choppy and tumultuous conditions in the capital markets. Central to this volatility has been the pivotal role of interest rates, which can significantly influence asset prices and investment decisions by impacting the availability and cost of borrowing. This raises the question of whether individuals are better off in a low interest rate environment versus a high interest rate environment. Here are some key considerations:
Low Interest Environment
- Money is cheap to borrow, so everyone does it and does not fully consider the true cost of goods and services.
- As a result, the price of things may increase as people are willing to spend more money on the same goods and services.
- Purchasing power, or the value of money itself, decreases. the $100 you have in your pocket, although the same notionally, buys you less things.
- House prices at their peak were met with low interest rates. In fractal math, we call this a similar set.
- Although house prices may rise in a low interest environment, those who benefit the most are those who already held assets prior to the low interest rate period and can sell them at peak pricing.
- Low interest rates cannot last indefinitely as people tend to over-borrow and inflation can eventually soar to high levels.
High Interest Environment
- As interest rates make the turn upwards, money becomes more expensive to borrow. Those who borrowed a lot during low interest times are often felt squeezed since servicing their debt becomes more expensive.
- This can lead to an influx of supply and low demand, driving down asset prices.
- When interest rates increase, many people may put a hold on buying, which can lead to a decrease in demand for assets. As a result, some individuals may find it difficult to service their debts on these assets and may be forced to sell them. This influx of supply coupled with low demand can cause asset prices to decrease, potentially leading to financial losses for the sellers.
- However, high interest rates can present buying opportunities for those who have saved capital and can buy assets cheap.
Which environment are you better off in?
The reality is that financial markets operate in cycles and it’s important to maintain a balance between borrowing and saving. In a low interest rate environment, it’s wise to borrow conservatively, avoid over-borrowing, and maintain a cash reserve. This is important because low interest rates are temporary and eventually give way to higher rates, which can lead to the depreciation of assets. In a high interest rate environment, having saved cash can provide an opportunity to buy assets at cheaper prices. Ultimately, the key to success is balancing low interest rates with saving and borrowing capital that can be serviced at higher rates. This will keep you afloat during high interest rate periods, as well as keeping your options open with the cash you have to buy assets cheap in high interest rate environments.
Thank you for reading,