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Interest rates going to 1.25% says Commonwealth Bank of Australia: Are dividend shares your best bet?

According to a recent report by economists at the Commonwealth Bank of Australia (ASX: CBA) investors should prepare themselves for a further two interest rate cuts of 0.25% in both August and November.

If the Commonwealth Bank’s prediction proves accurate, this would see the Reserve Bank of Australia’s (RBA) official cash rate fall from the current rate of 1.75% to just 1.25% by the end of calendar year 2016.

The Commonwealth Bank’s prediction comes on the back of a forecast from investment bank JP Morgan that the RBA is likely to drop its official cash rate to just 1% during the current easing cycle.

A rather peculiar situation

In general, the net margin earned by banks shrinks as interest rates decline. Hence, the prospect of further cuts by the RBA suggests a growing headwind for the Commonwealth Bank’s earnings.

Peculiarly however, despite the tightening, Commonwealth Bank’s share price could actually perform OK if investors maintain their heavy weighting towards blue chip shares paying attractive fully franked dividends.

Indeed, the prospect of even lower interest rates for savers would suggest that the chase for dividend yield is well-and-truly still on.

Better options than bank shares

While many investors still consider bank stocks as the “go-to” for yield, arguably there are better options available in companies that aren’t facing cyclical headwinds.

For example, Telstra Corporation Ltd (ASX: TLS) offers shareholders a diversified earnings base and market leading operations. Telstra’s fully franked dividend is also forecast to rise over the next two years and currently the stock is trading on a trailing yield of 5.4%.

Another stock worth considering is Platinum Asset Management Limited (ASX: PTM). Whilst the dividend is expected to be lower in the next two financial years than it was in 2015, the estimated forward fully franked dividend of 5.6% is hard to ignore.

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Motley Fool contributor Tim McArthur has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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