In our quest to discover how interest rates affect investment decisions we did a little research. Have you ever stopped to ask yourself what drives the investment decisions of rational investors with a longer time horizon? Well, worry less. Research has shown that majority of these investors generally do not take a keen look at the differences in the market interest rates among countries in making investment decisions.
It has been found out that the factors they do consider in making the investment decisions are good and stable growth prospects, low country risks—including political and economic stability—and a stable exchange rate. This all makes good sense for long-term investors such as pension funds and insurance companies. So why all this talk about how low interest rates in advanced economies are “pushing” investment flows to emerging countries. Additionally, it is in these economies where interest rates are generally higher. Does it really matter what the interest rates are? Let us find out.
Read Also: five Steps of the Investment Process
Interest rate can defined as the proportion of a loan that is charged as interest to the borrower. It can typically be expressed as an annual percentage of the loan outstanding. Interest rates are the single most important variable in determining returns to investors for bonds and fixed-income securities. Let us figure out how Interest Rates affect Investment Decisions.
Read also: Investing Decisions Over Investor Life Cycle
Interest rates and bond prices move in opposite directions. This is to say that, when interest rates go up, bond prices go down and when interest rates go down, bond prices go up. Investors therefore have to need to put this into consideration before investing in bonds. For example, if the market interest rates rise, then the price of the bond with the 3% coupon rate will fall more than that of the bond with the 6% coupon rate. Investors have to therefore purchase bonds in a low-interest rate environment. This means they have to do the vice versa in the case of high interest rates. A bond’s maturity refers to the specific date in the future at which the face value of the bond will be repaid to the investor.