Why do interest rates go up and down? Is this a good thing or a bad thing? Whilst these can appear to be difficult questions, the answers are more simple than you’d think.
Interest rates are adjusted to help create healthy and sustainable economic development. In the same way you adjust your driving speed to match the road conditions, interest rates are adjusted to help the economy operate smoothly through the current environment.
In Australia, interest rates are currently at record lows to help support the COVID-19 recovery.
Let’s take a look at how low-interest rates affect superannuation investments.
Is there an upside to low interest rates? Yes. It lowers the cost of debt. It becomes cheaper to repay debt (such as personal loans and mortgages). It is cheaper for businesses to borrow money and invest in economic growth. This may have a positive effect on the value of bonds and the stock market. Your HESTA investment option may hold bonds and stocks.
Can there be a downside to low interest rates? Yes. Lower interest rates mean money held at the bank or invested in cash products (such as a term deposits) will generate lower performance. Your HESTA investment option may hold cash and term deposits.
HESTA has a range of investment options. Each option holds a different blend of assets. These assets include Australian shares (e.g. Telstra), international shares (e.g. Apple), cash (e.g. ANZ Term Deposits), etc.
When interest rates are low, the cash asset component in your HESTA investment option will generate a lower return. In Australia, interest rates are already at record lows. It is possible that market conditions could lead to a scenario where cash rates continue to decrease. In some countries, interest rates have gone below zero.
It's worth pointing out that there are two investment options that hold significant proportions of cash assets: the HESTA Conservative option and HESTA Cash & Term Deposits option.
It's important to remember that this low-interest rate scenario will not persist forever, but we need to be prepared for a low interest rate environment for the next few years.
Currently, in order to support the COVID recovery, the Reserve Bank of Australia (RBA) has been funding the banks with cash at a low interest rate. This is done with the view that banks will expand their lending to businesses and reduce rates for borrowers. Ultimately, this low interest rate cash, which is initiated by central bank policy, then filters through the banks, filters through the economy, and has two effects:
In other words, it reduces the rate of return on cash.
Lastly, yes, interest rates can go back up, if the Reserve Bank of Australia increases the interest rate at which it will lend money to the banks. However, the RBA will only do this if it feels the economy will benefit from increased lending costs and deposit rates.
This information is current as at 22nd February 2021. While every attempt has been made to ensure the accuracy and reliability of the information, it is not guaranteed in any way.