Do higher interest rates lead to lower investments? Do higher interest rates lead to lower investments? Do higher interest rates lead to lower investments?

Do higher interest rates lead to lower investments?

PG
Peter Garnry

Head of Equity Strategy

Summary:  The conventional wisdom goes that higher interest rates cool the economy and investments are negatively impacted, but data on S&P 500 since 2003 suggest the opposite. When the US 10-year yield is in its fourth quartile this is actually when the subsequent one year growth rate in S&P 500 investments across research and development, and capital expenditures is the highest. Given all the talk about recession it is also worth noting that the growth in total investments among S&P 500 companies is now the highest in 11 years.


High growth in investments among S&P 500 companies

Accounting rules generally do not allow a lot of intangible investments to be capitalized on the balance sheet and thus we often only discuss capital expenditures when analysts are writing about investments among companies. But investments in brands (marketing expenses) or products (research and development expenses) are often expensed over the income statement and thus left out. While marketing expenses are rarely separated in foot notes the R&D expenses are and thus we can at least calculate the total investments in the S&P 500 by adding capital expenditures and R&D expenses.

The current level of total investments in the S&P 500 is $174 per share which is around 10% of revenue and 4.4% of the current market value and up 19.2% from a year ago. The current growth in total investments in the S&P 500 Index is the highest since late 2011 as the global economy was accelerating out of the Great Financial Crisis. Before that this level of growth was seen around the period 2005-06 as the global credit boom was lifting corporate sentiment and investments. While many CEOs talk about uncertainty, higher interest rates, and changing globalisation they are still confident enough to make big investments for the future. This underpins the argument that the economy will not even do a soft landing but accelerate and likely overheat adding to inflationary 

Will high interest rates kill growth?

We have been through period, and maybe we are still in it, where our lack of causal understanding of what drives inflation have been illuminated. If we understand inflation dynamics properly then we would most likely not have ended up in the current situation, but that is of course pure speculation. The other day one economist was mentioning that the higher interest rates were increasing costs for businesses as their floating loans were constantly refinanced at higher interest rates and that investments would likely decline. It sounds plausible that when capital gets more expensive that investments would be negatively impacted. But what if the causality is the other way around? What if low interest rates actually signals that few interesting investments are available in the economy.

If we split the US 10-year yield into quartiles then we can measure the growth in investments in the S&P 500 over the subsequent 12 months. The fourth quartile starts at the 3.84% level in the US 10-year yield and the average annual growth rate in total real investments (here we subtract inflation) in the subsequent year is 9.2%. This level is considerably higher that the third and second quartiles of 2.6% and 2.8% average annual growth rates. The first quartile splits at the 1.99% yield and in the low interest rate environment we measure subsequent growth of 5.9% on average. While these data points are not conclusive, and a proper study should broaden out the data analysis over a longer period and across more countries. But it is an interesting observation that since 2003 the highest growth in S&P 500 real investments has been during periods with the highest level of bond yields. So maybe the evidence is not that supportive that higher interest rates will kill the investment rate in the economy.

Disclaimer

Saxo Capital Markets (Australia) Limited prepares and distributes information/research produced within the Saxo Bank Group for informational purposes only. In addition to the disclaimer below, if any general advice is provided, such advice does not take into account your individual objectives, financial situation or needs. You should consider the appropriateness of trading any financial instrument as trading can result in losses that exceed your initial investment. Please refer to our Analysis Disclaimer, and our Financial Services Guide and Product Disclosure Statement. All legal documentation and disclaimers can be found at https://www.home.saxo/en-au/legal/.

The Saxo Bank Group entities each provide execution-only service. Access and use of Saxo News & Research and any Saxo Bank Group website are subject to (i) the Terms of Use; (ii) the full Disclaimer; and (iii) the Risk Warning in addition (where relevant) to the terms governing the use of the website of a member of the Saxo Bank Group.

Saxo News & Research is provided for informational purposes, does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. No Saxo Bank Group entity shall be liable for any losses that you may sustain as a result of any investment decision made in reliance on information on Saxo News & Research.

To the extent that any content is construed as investment research, such content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication.

None of the information contained here constitutes an offer to purchase or sell a financial instrument, or to make any investments.Saxo Capital Markets does not take into account your personal investment objectives or financial situation and makes no representation and assumes no liability as to the accuracy or completeness of the information nor for any loss arising from any investment made in reliance of this presentation. Any opinions made are subject to change and may be personal to the author. These may not necessarily reflect the opinion of Saxo Capital Markets or its affiliates.

Please read our disclaimers:
- Full Disclaimer (https://www.home.saxo/en-au/legal/disclaimer/saxo-disclaimer)
- Analysis Disclaimer (https://www.home.saxo/en-au/legal/analysis-disclaimer/saxo-analysis-disclaimer)
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)

Saxo Capital Markets (Australia) Limited
Suite 1, Level 14, 9 Castlereagh St
Sydney NSW 2000
Australia

Contact Saxo

Select region

Australia
Australia

The Saxo trading platform has received numerous awards and recognition. For details of these awards and information on awards visit www.home.saxo/en-au/about-us/awards

Saxo Capital Markets (Australia) Limited ABN 32 110 128 286 AFSL 280372 (‘Saxo’ or ‘Saxo Capital Markets’) is a wholly owned subsidiary of Saxo Bank A/S, headquartered in Denmark. Please refer to our General Business Terms, Financial Services Guide, Product Disclosure Statement and Target Market Determination to consider whether acquiring or continuing to hold financial products is suitable for you, prior to opening an account and investing in a financial product.

Trading in financial instruments carries various risks, and is not suitable for all investors. Please seek expert advice, and always ensure that you fully understand these risks before trading. Saxo Capital Markets does not provide ‘personal’ financial product advice, any information available on this website is ‘general’ in nature and for informational purposes only. Saxo Capital Markets does not take into account an individual’s needs, objectives or financial situation. The Target Market Determination should assist you in determining whether any of the products or services we offer are likely to be consistent with your objectives, financial situation and needs.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the US and other countries. AppStore is a service mark of Apple Inc.

The information or the products and services referred to on this website may be accessed worldwide, however is only intended for distribution to and use by recipients located in countries where such use does not constitute a violation of applicable legislation or regulations. Products and Services offered on this website is not intended for residents of the United States and Japan.

Please click here to view our full disclaimer.