In my last post, I indicated that the Federal Reserve would likely raise interest rates this year. It passed on raising rates at its meeting in October, and the next chance will be at its meeting in mid-December. The main point of that post was that even though the Fed has not yet acted to raise rates, the market had started to react in anticipation of a monetary tightening cycle. This particular anticipation of Fed action seems to be short term in nature – hence the rebound of the stock market in October from the August and September corrections.
No matter what the Fed decides to do, the important question for investors is: "How likely is it that longer-term interest rates will go up?" There are two important aspects to this. First, 10-year Treasury rates have historically been the measuring stick for determining stock valuations. Second, if longer-term interest rates do not increase, what can savers do to generate cash flow?
It isn't likely that interest rates, beyond the overnight rate, will go up much, if at all. Why is this? First of all, the Fed is considering raising the federal funds rate (overnight bank lending rate) from 0.25 to 0.50 percent. Realistically, you can make the case it is still close to zero. We are in a world where interest rates across the globe can impact rates in every market as money flows to the areas of highest potential return. Currently, a sample of developed countries' 10-year government bond rates are as follows:
- U.S.: 2.2 percent
- U.K.: 1.9 percent
- Germany: 0.56 percent
- France: 0.94 percent
- Japan: 0.31 percent
- Switzerland: -0.30 percent