2010 - An interesting year

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Recent economic data suggests that the worst of the global financial crisis has now passed and as a result, the Reserve Bank of Australia (RBA) has suggested that the recent interest rate rises we’ve seen won’t be the last.

The RBA will eventually increase interest rates to ‘neutral’ levels of around 5%, where rates will not stimulate economic activity by being too low, and not block activity by being too high. This proposed rate is significantly higher than the current level of 4.00%.

Interest rates and you

Although it might be some time before we see interest rates at 5%, it is a good idea to think about how this type of increase may affect you, before it happens.

Debt

For variable rate mortgages, higher interest rates will mean higher repayments. If interest rates are around 5%, standard variable mortgage rates are likely to be between 7.5–8.5% p.a. Interest rates on other loans, such as personal loans and credit cards, will also be around 2–2.5% pa higher than current rates. It’s important to ensure you can manage any potential increased repayment levels.

Bonds

Higher interest rates are likely to be bad news for bond holders and bond funds, because as interest rates rise, their capital value diminishes. However, as these assets are generally priced in the fixed interest market (which tends to anticipate changes in interest rates before they occur), we have already witnessed at least some of these changes.

Cash holdings

On the other hand, higher interest rates are good news for those with cash holdings. Banks will pay higher levels of interest on accounts, and term deposit rates are likely to rise. It’s now time to make sure your accounts meet your needs and have the potential to pay higher interest.

Growth assets

For growth assets, such as property and shares, rising interest rates can be a double-edged sword. The fact that interest rates are rising, means the economy is getting stronger, so the environment for these assets is positive.

However, residential property prices may become less affordable, and there may be some pressure on share prices as higher income yields for lower risk, are sought by investors.

Sources

http://www.rba.gov.au “Opening Statement to House of Representatives
Standing Committee on Economics” Governor Glenn Stevens 14 August 2009

http://www.sbs.com.au “Economy to grow this year” AFP August 7 2009

http://www.theaustralian.news.com.au “Reserve Bank shifts to neutral by removing easing bias” M Stutchbury August 4 2009

What you need to know

Information current as of February 2010. This article contains general information only. It does not take into account your objectives, financial situation or needs. Please consider the appropriateness of the information in light of your personal circumstances. If you decide to purchase or vary a financial product, your financial planner, AMP Financial Planning and other companies within the AMP Group will receive fees and other benefits, which will be a percentage of either the premium you pay or the value of your investment. You can ask us for further details about this.

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