The US Federal Reserve intends to raise interest rates although the timing of such a move is uncertain. For investors a question that comes to mind is, will higher interest rates drive stock prices down? In a recent interview on CNBC Warren Buffett said that today interest rates are key to valuing stocks.
Billionaire Warren Buffett said Monday the stock market would be viewed as “cheap” now if interest rates continued to remain low.
“If these interest rates were to continue for 10 years, stocks would be extremely cheap now,” the chairman and CEO of Berkshire Hathaway said Monday on CNBC’s “Squawk Box,” two days after Berkshire’s annual shareholder meeting.
If rates normalize, stocks would be on the high side on a valuation basis, he said.
Will higher interest rates drive stock prices down? The most trusted investor in the world thinks so.
Interest Rate Assumptions
Forbes published an article about dangerous interest rate assumptions.
Global markets are obsessed with U.S. interest rate policy, and for good reason. Interest rates around the world have been lowered in the continuing monetary fight against slow growth and recessions. Interest rates are incredibly important because they are the framework by which the value of assets are assessed and they are a reflection of the health of the economy. Additionally, a mismatch between market expectations and interest policy is the single biggest known risk to global markets. Because the U.S. economy has been viewed as “better” than the rest of the world, and because of the inherent importance of interest rates to global assets, markets have become obsessed with the timing and effects of U.S. interest rate rises.
The point is that changes in interest rates will have economic effects and much higher interest rates will dive stock prices down as they drive the dollar up, make exports less competitive and potentially cause harm to the recovering US economy.
European Interest Rates
The European Union is the other super world economy with a GDP similar to that of the USA. The EU took a different course when the 2008 recession hit and has paid a price. The US Federal Reserve loosened credit, bailed out banks and GM and poured money into the bond markets with its quantitative easing program. As the US economy is recovering the Europeans are at long last copying the US quantitative easing program and driving interests rates into the negative range and driving the value of the Euro down. This makes US products more expensive in foreign markets and if US rates go up it will get worse. Will higher interest rates drive stock prices down? It would appear so although the US remains in an enviable position of having its banking system make sense unlike the Europeans.
Paying People to Borrow Money
An estimated two trillion euros of European debt is paying negative interest rates. The Wall Street Journal offers its take on tumbling interest rates in Europe.
Tumbling interest rates in Europe have put some banks in an inconceivable position: owing money on loans to borrowers.
At least one Spanish bank, Bankinter SA, the country’s seventh-largest lender by market value, has been paying some customers interest on mortgages by deducting that amount from the principal the borrower owes.
Lower rates in Europe are causing havoc but if the Fed decides to raise rates in the USA, higher rates will drive down stock prices in the US as well.