How rising interest rates is affecting your investments

Maddy: [00:00:00] Hello and welcome to You're In Good Company, a podcast that makes investing accessible for everyone. I'm Maddy and as always im in Good company with my co-host Sophie.

Sophie: [00:00:42] Hi, Maddy. I'm sorry. My voice isn't actually sore. It's just gone. It is just absolutely gone. So I'm going to try my absolute hardest today. But you're kind of going to get the husky strained, Sophie. 

Maddy: [00:00:57] Coming up on today's episode where you're writing down everything you need to know about the recent announcement regarding rising interest rates. 

Sophie: [00:01:05] Yes, breaking it all down, because I know it's confusing and it has an impact on the stock market. But before we do, I have another joke for you.

Maddy: [00:01:13] Oh, here we go. 

Sophie: [00:01:15] Why are nudists bad for the stock market? I have. 

Maddy: [00:01:18] No idea why. 

Sophie: [00:01:19] They are associated with bear markets. 

Maddy: [00:01:24] Oh, gosh, that's terrible. 

Sophie: [00:01:27] I actually thought this one was good. 

Maddy: [00:01:30] I mean, I get it. That's a plus.

Sophie: [00:01:33] Okay, well, I guess if the joke's a flop, maybe we should just get into the content. Then can you give us a rundown of what has been announced in terms of interest rates in Australia? 

Maddy: [00:01:44] Yes. So Australia's CPI has risen to 5.1% in the March quarter, which is an even higher jump than the 4.6% that analysts were expecting in response to Tuesdays ago, the RBA came out and announced an increase of interest rates from 0.1% to 0.35%. 

Sophie: [00:02:04] So all of these terms you can read about in the paper, but it just is a whole bunch of jargon. So I think we should break it down so that we can kind of understand the conversation a little bit more. Firstly, what is CPI? 

Maddy: [00:02:18] Yes. So CPI is short for consumer price index, and it's the measure of the average price of products consumed by households. So I guess it's like if I go to the supermarket and do my weekly grocery shop, I buy my coffee, my bread, my fruit, ice cream, wine and CPI measures the average price of the goods that I pay for at the checkout. 

Sophie: [00:02:42] And so it sounds very similar to what inflation is like measuring a basket of goods. 

Maddy: [00:02:48] Exactly. It's often actually used to measure inflation by tracking the change in the price of my shopping trip over time.

Sophie: [00:02:55] So if CPI is increasing so I carry all of my groceries, sitting in my shopping basket is going up. That is a sign that inflation is rising. Is it only just, you know, my basket of shopping goods? Are there also other goods and services that are going up? 

Maddy: [00:03:11] So inflation is a broad at him and CPI. So it refers to just the general increase in prices and therefore the implication of that is actually a fall in the purchasing value of your money. I guess it's quite useful to acknowledge that the media often uses the term CPI and inflation interchangeably, but I want to touch on what I just said about the fall in the purchasing value of money, because I feel like that can be quite a good concept for us to get our head around. Can you give an example for this one? 

Sophie: [00:03:43] I think the best one that I think about it with and I was telling my little sister about this to try and explain it as well. But like, do you ever have your grandparents telling you that like when they were your age, a loaf of bread was $0.20? And why do you spend $5.50 on an oat latte?

Maddy: [00:04:01] I know. I think in my mind, my example of inflation is I used to go to the 7-Eleven and be ordered by a magnum for $3. And $3 was like the most expensive ice cream. And now you would pay $3 for, like, a paddle pop. 

Sophie: [00:04:14] Wow, that is a good one. Well, I feel like they're both prime examples of inflation. It just reflects that over time, prices go up and the value of our money goes down. So if the $0.20 used to buy our grandparents a loaf of bread, that $0.20 no longer kind of has the same value over time. Inflation does, I guess, rise. And then now our purchasing power does go down. 

Maddy: [00:04:34] I guess it's just important to note that inflation isn't necessarily a bad thing. I think often it's associated in the media with like a lot of, you know, it's rising interest rates and it's going to make it hard for the consumer. Steady inflation is actually a really good indicator of economic growth, but I think the keyword there is steady. So the RBA has a target. The Reserve Bank of Australia has a target of inflation sitting. Between 2 to 3%. Like we mentioned before, inflation this quarter is up at 5.1%. So does not fit within the realm of steady. It's a little bit too high, which is why there's been a lot of sort of media attention on this one. 

Sophie: [00:05:16] You know, I was just thinking another example that's affecting me personally. Yeah, I get a Diet Coke sometimes a lunch from the idea and it's no longer $2.50, it's $3.

Maddy: [00:05:27] It's inflation getting. Yeah. 

Sophie: [00:05:30] So I think it's kind of important to touch on why inflation does rise, I guess, outside of that realm of the 2 to 3%. So maybe we should kind of go through some of the main ways that that happens. Okay. So I have a bit of a challenge I'm going to go through, you know, three of the main reasons that inflation does rise with a little bit of an example. And then I want you to respond with how that's actually happening in the real world at the moment. 

Maddy: [00:05:57] Okay. 

Sophie: [00:05:57] Which the reason I'm giving you this challenge is because, honest to God, I ask you questions about inflation all the time and you feel like you're just this thing of knowledge and you know all about it. But you've been digesting so much. So this is on you. 

Maddy: [00:06:10] All right? You might be about to make me look very bad. Let's have a go. 

Sophie: [00:06:15] Okay, so the first reason inflation can rise is because of supply and demand. So when there's low supply of something, prices tend to go up because it's in high demand. And we see that in the stock market with shares and you can see it in the real world without goods. So an example is, you know, if there's less sugar farmers out there in the fields doing their normal jobs because there's less backpackers around or international workers with borders closing, as a result, there is reduced sugar supply and therefore farmers raise their prices because they know that there's demand for their products. So why is supply and demand affecting inflation at the moment? 

Maddy: [00:06:53] Okay, so the main reason is the pandemic. So during the pandemic, during COVID lockdowns, the government pumped lots of money into the economy through stimulus like job keeper, and it was used to counter the effects of lockdown. But because of this, the average amount of savings per household has increased. So people have more money in their pockets. And now that we're out of lockdown, we have been on a bit of a spending spree. So whether it be from cafes and restaurants to clothes and footwear, all of this has led to increased demand. But then on the other side, we've got supply chain issues. So whether it be workers not being able to come to work in the cafes and restaurants or shops because they're at home with COVID or whether it be having trouble getting food into the supermarkets, we've got this clash between increased demand and not enough supply. And as a result, prices have gone up. 

Sophie: [00:07:45] And you've mentioned there obviously like restaurants, cafes, we're also seeing things like petrol prices and you said as well, food, getting to the supermarkets. What are the reasons behind that? 

Maddy: [00:07:56] Yes, petrol prices have been a real sore point over the last couple of months. And that really comes down to the Russian invasion of Ukraine, which has been causing oil prices to surge. So Russia is actually the world's third largest producer of oil and the second largest producer of gas. So when countries all of a sudden are not one wanting to import those resources from Russia and they're looking to other sources, there is less supply if we take out all of Russia, meaning that the cost of oil and gas goes up. The other one that I think is really interesting and this comes back to food is Ukraine is actually one of the world's largest producers of wheat. Weight is in lots of different foods. I'm just going to leave it that way. So it's in lots of different foods and they're not able it, given their current situation to be farming and to be exporting. You know, all of their ports are cut off. So that has had a really big flow on effect as well.

Sophie: [00:08:54] So then the second reason for inflation is more around the cost side rather than supply and demand. So when production costs increase or supply costs increase, the sale price will tend to increase because it'll pass on to the consumers. So an example, back to my lovely example of sugar farmers, the cost of sugar has gone up, as we mentioned, because of the demand. Paul But now a cola who needs to buy a lot of sugar to make their product, their purchase of their cane gradient goes way up. So to ensure that Coca-Cola keeps making a profit, they'll increase the price of their bottles and cans, hence me saying, my Coca-Cola is now more expensive. So what's the reason behind these cost increases? 

Maddy: [00:09:36] Yeah. So I think this one really comes down to supply chain disruptions. And these have occurred globally because of COVID. So we've seen ports and airports closed. There have been less employees available to manufacture products, less workers in warehouses, and all of these have led to less supply. So all of these delays have increased the cost of production. Which inevitably will need to be passed on to consumers. A really good example of this is continued lockdowns that we are seeing in Shanghai at the moment. It's a huge export hub, particularly for electronics and biomedicine. So the fact that we are still seeing lockdowns in this region means that the costs for production, I mean, if it's even possible, are sky high. So as a result, that's being passed on to consumers. 

Sophie: [00:10:27] And I think it's so interesting. I don't know if you saw the image that was circulating the World Wide Web. I don't know why I just said that. But anyway. 

Maddy: [00:10:34] Email read. 

Sophie: [00:10:35] The w w w died. But of all the ships that are just sitting outside on the balls. 

Maddy: [00:10:40] Is that what w w w stands for? 

Sophie: [00:10:42] Oh, my god. 

Maddy: [00:10:43] Many World Wide. 

Sophie: [00:10:45] Web. Yes. 

Maddy: [00:10:47] Sorry. I refuse to believe that I'm the only person listening to this that did not know that. Wow. Okay. We're going to come back to that complaints. 

Sophie: [00:10:56] Could you please continue your activities? No. Yes. I don't even know what I was talking about now, but the ship. 

Maddy: [00:11:05] You just blew my mind. 

Sophie: [00:11:06] The the photo of all the ships that are sitting around the borders of China, because they can't. They're just sitting there and they're waiting to either give product or take it away. And it's just created this crazy cumulative effect. And because there is no supply. Everything has become more expensive. 

Maddy: [00:11:23] We will find that image and we'll put it on our Instagram.

Sophie: [00:11:26] The final reason for rising inflation is because prices are increasing as a result of costs. Increasing workplaces also need to go then and increase their salaries and wages and workplaces, I guess are reacting to the fact that we are going to have to pay more for our goods. So they need a kind of, I guess, like look after us is the best way of putting it. And this isn't just on, you know, your workplace, it's also on the government. The government does turn around and we've got an election going on at the moment. And a lot of their discussion is around how much should you increase a wage by and should it be, you know, mandatory to a certain extent because costs are increasing so much. So back to our example. The everyday consumer is now paying $3 for their can of coke and not the two before. And so I'll go to my workplace and be like, Guys, I've just got an idea. I'm making way for my Coca Cola. I need a pay rise, which I have said to my boss already.

Maddy: [00:12:22] I was going to say I've actually been joking with my boss. I might say his 5.1%. Come on. 

Sophie: [00:12:27] It's like a joke, but it's definitely not a joke. So I guess all of the reasons you've already spoken about matters do lead to ahead of this. But is there anything else that kind of leads to the, you know, workplace situation of us asking for more money? 

Maddy: [00:12:42] Yeah, well, I think, you know, the words cost of living are really everywhere at the moment. It's been a huge focus of the budget, the federal budget that was released recently. And it really is a result of the demand and cost issues. So, you know, as prices are rising, people like you and may consider the personal impact that that's having on our lives. And I guess we want to tend to our workplaces for more money to sustain our standard of living, to. 

Sophie: [00:13:07] Be honest as well, if you're someone sitting there wanting a pay rise, there are so many good resources out there learning how to ask that one because I know that it's such a difficult thing to do. But if this situation is affecting you personally, it's one, you know, option to actually go to the workplace and say, look, the CPI is sitting here and I need to be able to maintain the standard of living. Maybe we'll link a couple.

Maddy: [00:13:27] Yeah, great idea. So now that we have the basics of inflation down pat, we are going to take a quick break responses and we'll be right back after the break. To break down why this is leading to an interest rates rise and how this is impacting our investing portfolios. So before the break. So if we spoke about how the RBA likes inflation to sit between 2 to 3% over the medium term, currently we are sitting at 5.1% and inflation is actually rising at the fastest rate since the 1980s. So what can the RBA do about it? 

Sophie: [00:14:03] So when there is inflationary pressure, one of the ways that a government can deal with it is use their Reserve Bank or their main bank. It depends on, you know, the country that you're in, but we have the Reserve Bank of Australia. And one of their reactions is to increase interest rates. So two weeks ago our interest rates were sitting at 0.1% and it was widely expected that these rates would increase because of inflation. But most analysts were suggesting that they'd see a rise of about 0.15%. But in reality the RBA has actually increased the rates by 25 basis points, meaning they are now sitting in an interest rate of 0.35%.

Maddy: [00:14:42] So I'm going to stop you there because I think you used a term that is often used in the media and that is basis points and it's how the media often talks about interest rate increases and decreases. But all we need to know is that a basis point is 100th of one percentage point. So in other words, 1% is 100 basis points. So when the RBA increases rates by 0.25%, it's 25 basis points. It's just kind of easier to understand. It sounds a bit better than saying like point 25% increase. 

Sophie: [00:15:13] It does, it's got its own name but not 0.25%. Doesn't sound that big, you know, it sounds tiny, but everyone's making such a fuss about it. So like, why is there all the fuss about? Such as what I would consider a small rise? It might not be. 

Maddy: [00:15:28] So I think the first important point to know here is that interest rates haven't actually increased since November 2010. So it has been a long time and this really marks sort of a shift in policy by the RBA. But the real reason behind the hype is because this is a sign of what is to come. So Westpac economists are expecting rates to rise to 1.75% by the end of the year and 2.25% by mid-next year. So it's not really about that 0.25% increase now. It's about this being the start of a whole sequence of increases. 

Sophie: [00:16:04] And we're going to jump into like, you know, what are some of the specific stock market impacts. But I think it's also really important to note that, you know, we're kind of in our infancy of understanding, like what interest rate impacts mean for us because we haven't really experienced it as adults before. But people that have gone through kind of economic shocks and a lot of older people who have seen this before understand what the impacts can be quite broadly to the economy, to people's lives. And so I think when little changes like these do happen is always a lot of hype around it because it's like, well, last time at the end of the year, this all happened. And so it's kind of like applying what happened previously to the future and people just get a little bit nervous about it. 

Maddy: [00:16:40] That's a good point. And I'm interested to hear how are you feeling about sort of the state of the market at the moment? Obviously, I imagine your portfolio is down. 

Sophie: [00:16:50] I think on the markets side, I've really felt it. You know, as we've mentioned on the podcast a lot, I heavily invest in technology stocks and a lot of them aren't doing well at the moment. I, you know, had started to really shift my portfolio into more of an ETF portfolio. And, you know, I'm going to stick consistently to that because I say stick to the strategy. But yeah, of course. And you look at your stock portfolio and it's down, you feel like, Oh my God, I thought I was such a great investor, but I'm not. But it's not about that. It's about reassessing, making sure you're sticking to your strategy and I guess, like not being so shocked off by it, because I know that I'm a long term investor. How are you feeling?

Maddy: [00:17:30] Yeah, I mean, I think I would echo everything that you said. I've to be honest, I've been taking a bit of an avoidance attitude. I haven't been looking at my portfolio because I just know that it will be a bit depressing. I am sticking to my strategy. I've got the stocks in the ETFs that I want to continue to invest in, and even though in the short term inflation or interest rates might mean that their share prices are going to be down for a little while. But I'm really trying to keep a long term perspective and take advantage of the fact that they are down. Because I know the amount of times that I've looked back to a share price in March of 2020 when everything crashed due to COVID and thought, Oh, if only I invested then. So I'm trying to really take a long term, you know, 2030 approach and continue with my current strategy. But it's hard. I feel a lot less I'm a lot less interested in investing right now. 

Sophie: [00:18:23] Well, let's I guess let's have a look then at some of the reasons that the stock market is down, because I think when you understand it, it does give you a little bit more perspective and it also helps you find where maybe you can find some opportunities. So what's one of the main reasons that the stock market is impacted by rising interest rates?

Maddy: [00:18:40] The first one that comes to mind is increased borrowing costs. So when interest. Rates rise, it makes it more expensive for businesses to pay off their existing loans or to take out new ones as they're having to pay higher interest rates on the bank to the bank on their loan. So the same thing kind of happens for us as consumers. If I have a mortgage or if I have a credit card because I've been doing a little bit too much online shopping at the moment, that it's going to become more expensive for me to pay off my credit card. The flow on effect of that, then, is if I'm having to pay more money to pay off my mortgage or my credit card, my disposable income decreases. 

Sophie: [00:19:16] As we've already mentioned, interest rates mean that we are going to have less money. And it also is tied to the inflation that we're paying for more for our goods. And then if consumers are spending less because we're holding onto a bit more cash, it means that companies have less profits in their businesses and it again makes them look like they're less of an attractive investment. 

Maddy: [00:19:36] The third one is around this idea called opportunity cost, and that is if you have $5, you can spend it here. And the opportunity cost is that you don't spend it somewhere else. So as interest rates are rising, it's becoming more attractive for me to leave my money in the bank or put my money into safer investments that are going to return just the standard interest rate, rather than take the more risky position of putting my money into the stock market. I guess I would preface this by saying this is more of a theory point because our interest rates are still well below 1% and we know that the average return of the stock market is seven, nine, 10%. So it's good to understand because I know that, you know, when our parents were young and our grandparents were living through really high interest rates, at one point interest rates got up to around 14%. So you can see at that point, why would you want to be investing in the share market and earning, you know, around 10% a year when you can literally just leave your money in the bank and earn 14%? 

Sophie: [00:20:37] And as much as it's opportunity cost, I think on the other hand, that is that people just get nervous when the economic environment is really volatile. People are like, what if I keep it in cash? I know my cash is going to be there. And it's more of a short term perspective thing than a long term perspective thing. So it obviously changes if you're a long term investor. 

Maddy: [00:20:55] I think we should talk really quickly around some of the opportunities that could come out of this current economic environment. So what are some of the industries that stand to benefit from a rising interest rate environment? 

Sophie: [00:21:07] So I guess one of the industries that we've actually spoken about on one of our previous ASX episodes is the financial industry. So if you think about something like your bank, they're going to be benefiting from the fact that there's high interest rates because if they're getting higher interest paid on, say, the mortgages or the bank loans, that actually translates to more profits for them. Yes, there might be an element of higher costs for them as well. But I think in that opportunity you think where does this extra profit go? And it goes to the banks. 

Maddy: [00:21:35] Another one is consumer staples. So we think about these kind of industries. We talked about this in our episode that people are going to continue buying from the supermarket or from telecommunications companies regardless of the current economic environment. The same could be said for healthcare, just like consumer staples. People still need to buy their medicine and go to the doctor in both good times and bad times. 

Sophie: [00:21:58] I love that in our previous ASX episode we, you know, we divulged all the industries that benefit from inflation. And I was saying that, oh, with food I'm like, yeah, such a I'll just try and find the cheapest thing. And then claims like hijacking, like I splurge on everything and I'm like, okay, but what price does like your sausages become before you say, I buy the good sausages? You know what I mean? I I'm $25. Are you still going to be like, I'm having that lamb and Rosemary, are you going to be like, look, I'm just probably going to go for the home brands. 

Maddy: [00:22:28] Don't get between that go and effort. I have to say, the last one that I will throw into the mix is gold. And the that is because gold is a share market hedge. In other words, it moves in the opposite direction to the share market. So historically, it's done well in uncertain times and in falling markets, which is sort of what we're saying at the moment. 

Sophie: [00:22:46] But all of this being said, we've mentioned once we've mentioned a hundred times, we are long term strategists. Is that a word, strategists and way of thinking about the future? And I think with along with these times, it can be so easy to be frightened off. But if you have bought something with conviction at a high point during the bull run of 2020 and 2021, make sure you have that conviction even when it's low. And if you don't have it, think about it, reassess, understand why you don't. It's absolutely fine if your mind changes. But if you've got the conviction when it's high, have the conviction when it's low. 

Maddy: [00:23:25] I think one of the most important things during this time is just to equip yourself with the information, and that's really why we wanted to do today's episode. It's not necessarily to change your investing strategy completely in order to benefit from higher interest rates or anything like that. But it's more just to understand these are the reasons why my portfolio is down in the moment. These are the things that it. Impacting it, and I think that can make you feel a lot more secure and calm in times of volatility. 

Sophie: [00:23:51] So on that, you said that it's really good to be informed and I know that you have been keeping up to date with this stuff. Do you have any further recommended resources that you would give a shout out to? 

Maddy: [00:24:02] Yes, I listened to a great episode on interest rates. It's the Please Explain podcast by The Age and Sydney Morning Herald, and the title of the episode was Why Interest Rates Going Up? They really just broke down the whole process, I guess kind of similar to what we did today, but probably with a little bit more focus on the interest rates themselves. I think it gives some really good background. What about you? 

Sophie: [00:24:25] I would recommend the Journal podcast. They did an episode which was called Can the Fed Lower Inflation Without Causing a Recession? They kind of step through it all. Really interesting. I also read a really interesting article which I'll link in our Facebook group about how you can think about your portfolio during times like this. And it talks about strategies about hedging against inflation at times like this. It's definitely not financial advice, but I think it did give you it gives you a nice perspective of, I guess, things you can do. 

Maddy: [00:24:55] Yeah. To help diversify your portfolio. Well, I think we have spoken enough about inflation and interest rates for one day, but if you do have any questions about today's episode or anything that you feel we didn't quite cover, we really would love to hear it. So please jump into our Facebook group. YIGC Investing Podcast Discussion Group. 

Sophie: [00:25:15] We'll also be making surely some little graphs and pictures or whatever else to give you some explainers for this stuff, because I know it's a lot to digest with you when you're in the hearing it, but we will put that on our Instagram at YIGC podcast. 

Maddy: [00:25:29] We are very excited for those who have managed to get tickets to a live event. It is in two weeks we are going to be chatting all things sustainable investing. So if you do it here, we cannot wait to meet you. And in the meantime, if you have anything in particular that you would like, COVID in the session at the beautiful Prince Hotel in Melbourne. Please reach out and let us know your question.

Sophie: [00:25:51] Until next.

Maddy: [00:25:52] Week. We'll catch you then. 

Sophie: [00:25:54] Bye.