5 minute read

While policymakers are quick to point out that work on inflation isn’t quite done, it’s clear that economic temperatures have become considerably cooler – once red-hot inflation numbers are now closer to the 2% target for many central banks. Here’s how this new, lower inflation environment might affect your portfolio.     

        1. Can stocks keep their good run going?

Despite recent market volatility, which saw the S&P 500 fall about 5% in a week (losses that the index has already recouped, by the way), the outlook for a low interest rate, low inflation environment is generally considered pretty rosy. The ups and downs for stocks may well be a good thing – sell-offs along the road could mean buying opportunities for those keeping cash on the side.

The fact is that falling inflation and interest rates should stimulate economic growth, all else being equal. Plus, share valuations tend to rise when interest rates fall: when the returns on cash-like investments get squeezed, the stock market becomes more attractive.

        2. Are bonds ready for a comeback?

Bond prices are highly sensitive to interest rates, and the recent run of rising interest rates have caused them to drop in value (our Simply Finance below breaks this down). That’s why bonds fell by so much in 2022 – investors had to reprice existing securities because new bonds were being issued with higher rates.

But the tide is shifting: now central banks are expected to cut rates to keep their economies humming along. The higher interest rates we’ve seen over the past few years means a longer runway for bond prices to appreciate as rates fall.

As an investor, what’s the takeaway here?

It's tempting to try and predict which asset class will outperform. But here's the real takeaway: diversification remains your best ally – after all, a well-balanced portfolio captures all of these opportunities at once.

📰 In Other News: From Wall Street to Wyoming

The financial world's attention will soon turn to Jackson Hole, Wyoming, as the Federal Reserve Bank of Kansas City hosts its annual economic symposium, bringing together central bankers, economists, and academics to hash out monetary policy.

Jackson Hole has a history of surprising the markets: like in 2010 when former Federal Reserve Chair Ben Bernanke began talking about more quantitative easing, or in 2020 when current Chair Jerome Powell introduced the “average inflation” targeting strategy. So keep one eye on the mountain town in the week ahead, because it could bring another twist.

A likely outcome is Powell reaffirming expectations for a September rate cut, the first since March 2020. Trouble is, investors are still jittery after the sharp market sell-off earlier, and are now craving a chunkier-than-usual cut. They’re increasingly betting that the Fed will lower rates by a half-percentage point – roughly double what was expected just a few weeks ago.

These articles were written in collaboration with Finimize.

🎓 Simply Finance: Bond prices and interest rates

Think of the relationship between bond prices and interest rates as a seesaw. When one goes up, the other falls, and vice versa.

Let's say you buy a bond that pays 3% interest. If interest rates rise to 4%, your 3% bond is now less attractive to other investors – after all, why would they buy your bond when they can get a new one paying 4%? As a result, demand for your bond drops. Conversely, if rates fall to 2%, your 3% bond becomes more desirable, driving up its price.