The cost of variable-rate mortgages and lines of credit linked to the big bank prime rates have already gone up, but experts say the move by the Bank of Canada to raise interest rates may also affect your investment portfolio.
As interest rates rise, investments like real estate investment trusts and utilities, to which many investors have looked to provide a source of steady income, are expected to come under pressure.
“People aren’t willing to pay as much for those sectors,” said CIBC portfolio manager Craig Jerusalim, adding that REITs and utilities typically also have more debt which becomes more expensive to service as interest rates move higher.
The Bank of Canada has raised its key interest rate target twice this year, taking back the two cuts it put in place when oil prices plunged. Economists expect the central bank to continue to raise rates, but opinions vary about how quickly it will happen.
On the flip side, some industries will benefit from higher interest rates.
Jerusalim said the banks benefit when the Bank of Canada raises its key rate target because the higher rates help improve margins at the big lenders.
Greater loan demand
As expectations ramp up that short-term rates will rise, long-term interest rates should also increase and that will help insurance companies. Higher long-term rates help insurance companies when they calculate their future liabilities.
Alfred Lee, a portfolio manager and investment strategist at BMO Global Asset Management, added that as the economy picks up, banks will benefit from greater demand for loans.
In addition to the financial sector, Lee said investors are also rotating into growth stocks that are expected to benefit from the improving economy with the industrials sector expected to perform well.
“For the most part the Bank of Canada’s raising rates because the economy is in a better position than it was a couple of years ago,” Lee said.
“The industrial segment will do well because it is tied to the economy.”
Lee added that rate-reset preferred shares could also benefit because the dividends they pay are often tied to the five-year Canadian government bond rate.
Jerusalim says it’s important to remember that interest rates are still very low, they just aren’t at the emergency levels anymore.
“Our team is not expecting significant increases over the next 12 months, we’re thinking we’re only going to get either one or two more rate increases over the next 12 months,” he said.
But he added as interest rates rise it is even more important for investors to carefully evaluate their dividend-paying investments.
For investors to protect themselves, he says they will have to be a little more careful to discern the difference between the better companies and those that just benefited from low interest rates.