Trader’s Corner: Lessons in the Importance of Interest Rates
Posted by admin on January 27, 2012
Yesterday, the Fed announced that it would keep interest rates low until late-2014. Previously, the Fed had said mid-2013, and most had predicted mid-2014 at the latest. That the Fed was looking so far out surprised everyone.
While many would say that 2014 is far away, and that this was, after all, a prediction and not a promise, the statement still had far-reaching effects no the market. A quick review of the activity over the last two days shows the significant impact of such an announcement on a range of industries and sectors. After all, while the fundamentalist might be tempted to say that not much had changed, sentiment has changed, and sentiment moves markets.
Here are the “winners”:
- Treasuries rose, and yields on Treasuries immediately dropped as much as 10 basis points – a huge move in such markets. While this might seem counter intuitive, Treasuries rose because it was now safer to hold Treasuries for a longer period of time.
- Dividend paying stocks generally did well, because their yields became more attractive.
- Utilities rose, because their yields also became more attractive.
- Investments that depend on low interest rates for leverage rose sharply. For example, Annaly Capital (NLY), leverages by borrowing at low interest rates and buys mortgage-backed securities. By doing so, NLY provides almost a 14% yield. It could not do so without leverage.
- Commodities rose because lower interest rates makes hard assets more valuable relative to cheap paper money.
- Gold jumped, for the same reason that commodities did.
- The dollar fell, which was good for US exporters.
- Foreign currencies in countries that were not printing money, such as New Zealand, rose.
- In general, equities are favored, because they are expected to be a better alternative than Treasuries that yield next to nothing.
Of course, there are lots of “losers” as well:
- Banks, especially lending-oriented banks, suffered, since they will have to lend money at very low rates. Stocks such as USB and WFC, both of which reported solid quarters, took a hit today. This was partially because they have already had a big run, but this was as good a catalyst as any for these stocks to sell off. Add to this President Obama’s anti-bank stance in the State of the Union address, you have a bad environment for banks going forward.
- Insurance companies are hurting because they have to make payments to policy holders, but make very little money on their investments. Also, if the insurance companies put money in securities other than Treasuries, they have to take charges or reserve against such investments. This makes it difficult for insurance companies to invest in higher yielding securities.
- Companies that make money from float – that is, taking money that they hold and investing it overnight – suffer as well. Such companies include ADP, the payroll processing company that takes money from payers, invests them overnight when the money is in their possession, and then pays employees, will make less money from float. The retail brokers – E Trade, Schwab and TD Ameritrade, also do the same with customer’s accounts.
- The lower dollar hurts other currencies such as the Euro, and will hurt exporters such as Germany.
- As commodities prices rise, companies with a large percentage of commodities as inputs will see higher costs.
- Savers, and especially retirees dependent on savings, will suffer.
Traders were very busy over the last two days adjusting their portfolios.
I am long NLY, USB, WFC and SCHW for myself or for clients. I also have investments in commodities ETFs, GLD and several banks.
Filed Under: General