Lowering Interest Rates is a Mistake, says Fidelity's Spreadbury

Low interest rates have failed to boost the economy over the past seven years, say fixed income fund managers - and will destroy returns in both bonds and equities

Emma Wall 13 July, 2016 | 4:14PM
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Struggling to find a decent income? Things are about to get a whole lot worse, according to top rated fund managers.

Less than 6% of government bonds globally yield more than 2%

Despite the pound enjoying a bounce since Teresa May was announced as the new Prime Minister or Britain, the Bank of England is widely expected to cut interest rates tomorrow. And according to key professional investors, the central bank is making a big mistake.

“We are in uncertain and extremely challenging times,” said Ian Spreadbury, manager of the Gold rated Fidelity Moneybuilder Income fund. “Lowering interest rates is a mistake. What is the central bank hoping to achieve? Seven years of record low interest rates has not delivered. They were supposed to generate growth, by encouraging people to borrow money and spend more. But instead it has had the opposite effect.”

Spreadbury says that while yields have fallen, thanks to the aging nature of the British population it has simply encouraged people to save more – afraid of the shortfall they may face in retirement thanks to poor returns on cash.

“Lowering rates does not create growth,” he said. “Instead it just exacerbates the rich/poor divide and it worries me.”

While a rate cut is futile, the Fidelity manager says he cannot foresee the Bank of England being able to raise rates to the pre-recession levels of between 4 and 5% for at least a decade – as it would destroy the housing market on which the UK economy is so dependent.

“Imagine what it would do to mortgages, to household debt if the Bank raised rates? We need to erode the debt levels but to do that you need a period of low growth, which politicians are keen to avoid,” he said.

With inflation set to rise, thanks to weak sterling and a more stable oil price this puts investors in a tricky position. Income remains the dominant concern for so many savers, but there are fewer and fewer places to find a decent low-risk yield. Less than 6% of government bonds globally yield more than 2%.

“If you want more than 2% income from bonds you have to be prepared to accept more price volatility,” said Spreadbury. “Bonds which behave more like equities and have a closer correlation with equities too. Debt issued by pharmaceuticals and tobacco firms.”

“Drastic Consequences”

Jim Cielinski, global head of Fixed Income for Columbia Threadneedle agrees that the longer the low rate environment persists, the more damage is done and said that taking rates to 0.25% in the UK “will not make any difference to the economy”.

“The current policies are changing the world – they have drastic consequences,” Cielinski warned. “No one wanted to be invested in bonds at the beginning of this year, but the asset class has delivered fantastic returns. But for every price rise it means returns going forward are even more challenged. Bonds no long offer portfolio diversification. All investors should be concerned about low rates.”

Cielinski explained that the rules of thumb applied when saving for retirement no longer applied thanks to the income squeeze.

“It used to be that you could start saving into a pension at age 40, tuck away 10% of your salary and retire at 65 and live comfortably for 20 years, but that scenario is now near impossible,” he warned.

“The savings business will need to revolutionise to meet the challenges of this low rate environment.”

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Emma Wall  is former Senior International Editor for Morningstar