Investing

Should You Keep Investing When Interest Rates Rise?

By Kanwal Sarai
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Reader Investing QuestionA reader recently asked:

"The US cannot keep its interest rates close to zero forever while the debt burden is increasing at a rapid rate. How would rising interest rates affect my "value investment for dividends" stock portfolio? Is it the right time to put serious money into dividend paying stocks if I stongly believe that US interest rates will rise and there might be a default in US debt and/or a massive inflation?"

Here is my reply:

Great question!

Broadly speaking high interest rates will cause stocks prices to come down, but not all stocks, and it will not last forever. I noticed that during 1979 to 1983 interest rates went very high, so I looked at 4 companies during the same period to see what happened to their stock price:

Coca Cola (KO)
1979: $0.95
1983: $1.00
Johnson & Johnson (JNJ)
1979: $1.57
1983: $3.10
General Electric (GE)
1979: $1.02
1983: $2.01
Boeing (BA)
1979: $4.91
1983: $5.03
In all four cases the stocks did rise, not by much but they did rise. In fact if you look at the same companies from 1979 to 1990 you will notice a much higher increase in share prices. Yes, higher interest rates will put downward pressure on stock prices, but over time the stock prices will recover.
Also remember that quality companies continue to increase dividends even during times of high interest rates.
Number of years of consecutive dividend increases:
Abbott Labs (ABT) 35 years
Coca Cola (KO) 46 years
Emerson Electric (EMR) 51 years
Johnson & Johnson (JNJ) 46 years
Procter & Gamble (PG) 54 years
Here are some other things to consider:
  • according to Geraldine Weiss (founder of Investment Quality Trends) regardless of market conditions, it is always a good time to buy quality stocks when they are undervalued
  • "But looking longer-term, there is one area of the market that should provide pretty decent protection against rising interest rates -- dividend-producing stocks. Stocks that regularly pay out dividends give you an extra shot of income, and because rising rates typically accompany a rebounding economy, that means these companies should have extra cash on hand to increase dividend payouts. Stocks that provide regular payouts should give you a greater chance of staying ahead of rising rates." (1)
  • "As you can see from the above chart, the energy sector does very well when interest rates are low and rising. Energy also out-performs during secular bear markets." (2)
  • if you believe that interests rates will rise avoid investing in REITs, and companies with high debt

Renato Anzovino, portfolio manager with C.F.G. Heward Investment Management in Montreal believes: "Stocks with high yields and low growth prospects would be most vulnerable if rates rise, he said, but those with growing earnings and dividends should hold up well." He also says: "The only area that is going to benefit [from high interest rates], I believe, is the life insurance sector. Life companies have been hammered by low interest rates, which depress the projected returns on their bond portfolios." (3)

High interest rates may depress stock prices, but this could be a great opportunity to pick some excellent companies when they become undervalued.
I find comfort in the fact that during high interest rates, dividends will continue to increase, and stocks prices will eventually recover. Remember you are a long-term investor, do not get caught up in short-term interest rate changes.
I will continue to invest in quality companies when they are undervalued, for the rising income (dividends) and long-term stock price appreciation.
References:
1. 
2.
3.
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Kanwal Sarai

With more than 27 years of investing experience and a passion for investing and teaching, I demystify the world of investing. My goal is to help you grow your net worth by investing in quality dividend paying stocks. Build your own stream of increasing income today.

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