Well, it's official. The Reserve Bank of Australia (RBA) has just done what it's threatened to for months and cut the official cash rate to yet another record low. Interest rates were already at unprecedented, record lows at the old rate of 0.25%, where they have been sitting since March. Today's moves put a new meaning to the phrase 'record low'.
So much is being made of this move, but what does it really mean for savers, investors and ASX shares?
Consequences of 'record low' interest rates
Let's be frank, a cash rate of 0.1% is essentially zero. It means that the cost of borrowing money has never been cheaper, at least in modern history. Those looking to borrow money, or buy a home (or who have already done so) should be especially thankful. And this is true in real terms as well, not just nominally. Inflation is also at record lows. The RBA also told us today that it foresees inflation staying at around 1% per annum in 2021, only rising to 1.5% in 2022. That means a mortgage with an interest rate of 2% in 2021 will really be a loan with a 1% interest rate in real terms. That's cheap money.
So this move today is great news for borrowers. But what does this mean for savers? Well, it's very dire. Bank accounts are already offering next-to-nothing in terms of interest rates. And this move is likely to further put pressure on margins. I wouldn't be surprised if you can't find a savings account or term deposit with an interest rate above 1% by the end of the year.
If we consider this paradigm in conjunction with what we just discussed about inflation, it is even direr. If inflation is 1% in 2021, and a bank account pays you 1% in interest, your money is effectively going nowhere. In fact, it will be going backwards in real terms when you pay your required tax on the interest earned.
TINA TINA Bobina
Enter TINA – the acronym that has come to define investing in the age of the coronavirus. TINA stands for 'There Is No Alternative', and perfectly sums up why this move is good for the S&P/ASX 200 Index (ASX: XJO) and the shares within it.
No one wants to have their cash sitting 'safe' in the bank, but losing real purchasing power every year. As such, all but the most risk-averse investors are likely going to be using either the share market or the property market to try and boost their portfolio's returns. There is simply no other option, seeing as cash and government bonds are rendered almost worthless by interest rates being at near-zero.
That should provide a tailwind for the entire share market, which will last until rates begin rising again. And, if we take what the RBA has said today, that's not coming anytime soon.
