RBA governor confirms – lower interest rates are here to stay
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For small cap stock investors, it always pays to keep an eye on interest rates.
And RBA governor Philip Lowe has today reiterated the central bank’s view that rates look set to stay lower for longer.
Lowe made his comments in a speech on inflation, which remains at the low end or stubbornly beneath the target range for most Western economies.
Australia’s latest inflation print in April showed underlying underlying CPI rose at the equal-slowest rate on record (1.4 per cent). Since then, the RBA has cut benchmark cash rates twice to a record low of one per cent.
At the same time, the ASX has pushed ahead to finally eclipse its previous record high reach in 2007, just prior to the financial crisis.
So on the macro level, it’s clear the level of interest rates is factored into the future cash flow projections that go into stock price valuations. Higher rates means those cash flows are discounted more sharply, and vice versa.
Billionaire stock-picker Hamish Douglass recently told the AFR that this is “the most important topic” as an investor. His listed investment fund, Magellan, has recently lowered its outlook for global interest rates.
With that in mind, Lowe today reiterated that rates are set to stay subdued in Australia, with reference to inflation and current levels of unemployment.
He also left the door open for further rate cut if excess capacity in the economy isn’t met by the same level of demand.
“On current projections, it will be some time before inflation is comfortably back within the target range,” Lowe said.
“Whether or not further monetary easing is needed, it is reasonable to expect an extended period of low interest rates.”
In discussing Australia’s labour market, Lowe said that strong employment growth has been matched by an equally strong rise in the number of people looking for work — an outcome the RBA wasn’t expecting.
Australia’s unemployment rate is currently low, but without that development it would be significantly lower, which would in turn be filtering through to wage growth and by extension, inflation.
So for now, near-term inflation expectations remain anchored. And as a result, so do interest rates.
Looking abroad, no less an investor than Warren Buffett recently said that current US policy settings — both fiscal and monetary — aren’t compatible with low rates of inflation.
Although he did concede that he’s been “wrong on that for some time”.
But for anyone with an ASX stock portfolio, it’s still important to take note of underlying inflationary trends — the key driver of where interest rates will go next.
You can read Lowe’s full RBA speech here.