Middle East

Can interest rates leverage inflation?

Interest rates indicate how much it costs to take money on loan and how much they yield your savings. If you ask for a bank loan, the interest rate is how much you pay for the loan. If, on the other hand, you deposit money in a savings account, interest is the performance you receive on that sum from your bank.

What are interest rates? The interest rate indicates this cost or this performance as a percentage of the figure you take or give the loan (in the case of the deposit on the savings account, it is you who “from money on loan” to the bank).

In the traditional financial world, the level of the interest rate depends on many things: on the demand and offer of loans, on the specific use of the money given and more.

Interest rates: what are they?

The simple explanation of interest rates is the cost of money. It is measured as a percentage and indicates the cost incurred by those who use a sum of money for a certain period.

In practice, it represents how much it costs to take money on loan and how much they give fruit to your savings.

The example from colleges is that of the interest rates of a financing operation: whether it is a family mortgage or a small saver account or a loan paid to a company, by interest rate we mean the cost of the money granted on loan.

This cost is calculated as a percentage of the total sum paid by loan by the financial subjects who are mainly banks.

Any financial operation has a cost and this corresponds to the interest rate. It is therefore evident that those who obtain the loan pays the interest rate to their creditor (the bank) and that, particularly to  those who receive it, it is a revenue.

Interest rates and inflation

In a scenario with growing inflation, the central bank of a country reacts by raising interest rates, that is, the cost of money increases to discourage access to credit; In this way it begins to circulate less currency and, inevitably, inflation tends to decrease. Commercial banks transfer a part of these higher rates to its customers, which reduces the purchasing power of companies and consumers. For example, it becomes more expensive to borrow money for a house or car.

Ultimately, the increases in interest rates acts to slow down the expense and encourage savings. This motivates companies to increase prices at a slower pace, or lower prices, to stimulate demand.

Inflation in a few words

Different classes of activity behave well in inflationary environments.

Material activities, such as properties and raw materials, have been historically seen as coverage against inflation. Some specialized securities may maintain the purchasing power of a portfolio, including some sector securities, bonds indexed to inflation and securitized debt.

Investments sensitive to inflation is accessed in various ways both as direct and indirect investments.

The interest rate in a nutshell

The interest rate is an investment parameter expressed in percentage that indicates the interest rate to which the invested capital is remunerated. Each investment has its own interest rate which provides key information on the same.

So what to do when investing?

The main objective becomes the protection of the value of the portfolios in real terms. Therefore, raw materials and metals (both industrial and precious – think about batteries for electric cars!) as a structural components of the investment wallet will be advisable. The liquid component (cash) will be considered in a function other than the traditional one (risk -free asset), that is, for the optional characteristics that make it a strategic asset in periods of volatility. The liquidity award, which favored the massive appeal to the insertion in the portfolios of private assets (private equity and private credit) will be reconsidered in a structural way. Both for the presence of a strong leverage component in the past generation of returns – now put at risk by the increase in interest rates – and because in a phase of financial repression and endemic volatility the strategic value of liquid assets (liquidable ) increases structurally.




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