It has been more than five years since the major central banks slashed interest rates to record lows, and at times it has seemed like the rates will stay low forever.
But at some point that has to change. Interest rates can only go in one direction from here, and that is upwards. When they begin climbing, and the process may have already started, a new set of winners and losers will emerge. The house price and stock market bull runs of recent years may be under threat. But there could be some long-awaited relief for savers as rates on deposit finally rise.
When rates start rising, you need to be prepared. Here’s how it will affect your investments, savings, mortgage and pension.
Investments
Rock-bottom base rates have been great news for stock market investors, who have enjoyed a five-year bull run.
But the days of low interest rates are now drawing to a close, says Jahangir Aka, the managing director for the wealth managers SEI Investments Middle East. “I expect rates to finally start creeping up from early next year. Slowly at first, then sharply as economic growth returns with a vengeance.”
But rising rates won’t be enough to slow the rapid global recovery.
“Most companies have taken the opportunity to pay down debt and should be able to withstand rising rates,” Mr Aka says. “Businesses are sitting on the largest hoard of corporate cash in history. When confidence returns and they start investing that cash, we can expect another bull run.”
As the recovery really kicks off, US$3 trillion of quantitative easing could finally work its way into the real economy, accelerating growth.
At that point, this quarter’s emerging-market wobble will be quickly forgotten.
“China and Asia have young, well-educated populations, a growing middle class and are pouring money into urbanisation and infrastructure,” says Mr Aka. “Future growth may be slower than the double-digit rates we saw in China, but it will be from a much higher base.”
Markets may remain volatile this year, aggravated by geopolitical concerns in Ukraine, but in the longer run the prospects look positive, he adds.
Good news for stock market investors could spell trouble for the bond market, warns James Thomas, the regional director at Acuma Wealth Management in Dubai.
“Markets have started to price in interest rate rises, and that is bad news for bonds, which pay a fixed rate of interest and therefore look less attractive when rates are rising,” he says. “Bonds are already falling out of favour as money flows towards other assets.”
Savings
Nobody wants interest rates to rise more than savers, who have suffered five years of record-low rates on deposits. But with rates unlikely to start rising until next year, they may have to be patient a little longer. Savers in the UAE are relatively lucky, as they can get better rates than are available in the United States, Europe or offshore, says Ambareen Musa, the founder of the financial service comparison website Souqalmal.com.
“On fixed-deposit accounts the returns are quite healthy, with rates of up to 5 per cent. The downside is that these aren’t straightforward accounts, so you have to make sure you comply with their terms and conditions.”
Union National Bank pays a fixed rate of 5 per cent a year over an 18-month term on its Accelerating Rate Deposit account. The minimum balance must be Dh50,000 but there is no fee for running the account, although you will be charged if you fall below the minimum balance.
The Unfixed Deposit account from Mashreq pays up to 3.11 per cent. You can access your money on this account but will sacrifice 2 per cent of your interest if you do.
Many accounts have tiered structures, where you get higher rates for saving more. The RAKBank RAKvantage account, for example, offers tiered rates starting at 0.25 per cent on balances starting at Dh10,000, rising to 1.5 per cent above Dh5 million.
Expatriates with ample savings in the UAE must ensure they make a will and have it attested by their embassy. If they do not and die unexpectedly, any money held in the country could be frozen and distributed according to Sharia.
The result is that many expats prefer to hold larger sums of cash offshore, despite dismal rates. The market-leading Lloyds Bank International Bonus Saver Account, for example, pays just 0.70 per cent on a minimum balance of $5,000.
For savers, rising interest rates can’t come soon enough.
Mortgages
Mortgage borrowers who take on too much debt today could regret it when interest rates finally start rising.
It pays to plan ahead for higher borrowing costs, especially since rates are likely to start rising in the UAE before they increase in the West, warns Warren Philliskirk, an associate director at Mortgage International Business Dubai.
“The UAE is seeing a strong rebound in every sector of its economy, and I believe it won’t be too much longer before rates are driven up,” he says. “Rates could rise much faster than in the US, despite the dollar peg. It wasn’t that long ago that local banks were charging mortgage rates of 8.5 per cent, double US rates.”
New banking rules should prevent local borrowers from taking on to much debt by setting tough new measures to ensure borrowers can repay their loans if their income falls or repayments rise.
“This gives you an automatic buffer, but you have to do your own sums as well to factor in major life changes such as the cost of having children,” Mr Philliskirk says.
If you plan to hold your property for the long term, now is a good time to consider a long-term fixed rate. “We always advise our clients to consider a fixing, even if they have to pay a slightly higher rate, because it offers much-needed protection against future unknowns,” Mr Philliskirk says.
Pensions
Low interest rates have destroyed the returns on annuities, the income for life many expats buy with their pension pot when they retire.
A rise in rates will be good news for anybody looking to retire in the next couple of years, says Steve Rigby, the divisional manager of Western Asia and India at deVere Group’s PIC Middle East. “Base rates in the major Western countries are unlikely to rise higher than 3 per cent before 2017, so don’t hang out the bunting or pop the champagne corks just yet,” he says.
Interest rates aren’t the only factors affecting annuity rates, he warns. “Any improvement in rates could easily be undone by, say, a rise in life expectancy. Therefore, it remains vital that individuals carry out a full review of their pension every year to avoid nasty surprises as they get closer to retirement.”
Regardless of what happens to rates, Mr Rigby expects the recent trend for growing numbers of expats to transfer their existing pensions into Qualifying Recognised Overseas Pension Schemes to gather momentum. “This will help to put their retirement funds beyond the reach of political whims by transferring them into a safe, lower-tax jurisdiction,” he says.
Sidebar: Prepared for rising rates
Zaigham Burney and his wife Amun were keen to get on the UAE property ladder before rising prices made that first step even more expensive.
But they were also determined to protect themselves against the chance of an early interest rate hike.
So when the married couple – originally from Pakistan but with roots in Canada and the United States – bought an apartment in Motor City, Dubai, last August, they decided to pay a little extra for the protection of a fixed rate, says Mr Burney, 26, who has lived in Dubai for four years and works as a financial analyst.
After comparing mortgages across the market on the price comparison site Souqalmal.com, they opted for a two-year fix. “Our plan was to see where the housing market would go over the next couple of years, then make a decision either to sell and move up the ladder or buy a second property.”
Mr Burney believes the UAE property market is strong enough to withstand a rise in interest rates. “We were confident that the real estate market would continue to strengthen and wanted to buy before prices became higher still.”
But Mrs Burney, 26, who works as an investment lawyer, says the couple still didn’t overstretch themselves. “We can safely cover our monthly mortgage payments from our salaries, even if they rise after our two-year fix comes to an end.”
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