03 Nov Rates are Rising
This is the first in a series of emails from different Robinson Sewell Partners directors regarding the upward movement of interest rates currently taking place. There are no predictions or recommended interest rate strategies, just observations and commentary around what you need to consider and discuss in more detail with your bankers and advisers.
After 10 or so years of falling and then stable low interest rates, we are entering a period of upward pressure and movement of interest rates. This upward pressure is largely being driven by inflationary pressures around the world and in Australia.
In Australia’s case, the cash priming of the economy by our state and federal governments during the pandemic has had the desired effect of supporting most wage earners and businesses over the past 18 months (i.e. minimising loan defaults and business insolvency). However, government financial support has also created inflationary pressures in the economy, particular given those financial support measures have been spent at home (i.e. domestic travel, home repairs and renovations, new housing etc).
Other major economies around the world are experiencing similar or higher inflationary pressures as a result of government spending and other factors.
So, with a rising interest rate environment in play, what are some of the factors you need to consider with regards to debt?
- Refrain from fixing any debt until you have conducted a more widespread review of your financial position. This means reviewing your current ‘customer margin’ or in other words, the margin that reflects your risk rating to the bank. Quite often a borrower’s position improves over time, but the bank has failed to re-grade your risk and reduce your customer margin. Once you do a fixed rate loan, you have also fixed your margin regardless of whether or not it reflects the position of your business.
- Be aware that equipment finance quotes are only valid for as long as interest rates remain static at that level. EF quotes have typically held for 4-6 weeks in recent years. The rising fixed rate market has however accelerated the frequency of repricing. The issue with equipment purchases is that a piece of equipment may not be delivered for 3 months or more, so the interest rate cannot be determined until 2 to 4 weeks out from loan settlement.
- Factor higher interest rates into your cashflow forecasts. Banks have always ‘sensitised’ forecast loan repayments by adding 1.5% to 2.0% to the actual current interest rate in order to see how your capacity to repay debt stands up.
- Increase the frequency of discussions with your banker and advisers around possible interest rate hedging strategies (e.g. combination of fixed and variable), especially if you feel your business could be vulnerable to higher interest rates.
Stay tuned for additional insights and ideas from other RSP partners as we move into an upward interest rate cycle not seen since the days of GFC.