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Interest rates

The story on declining interest rates continues, with the Reserve Bank of New Zealand (RBNZ) having cut the Official Cash Rate (OCR) for the fourth time this year.

What does this mean for everyday investors? When the OCR is cut, Banks are expected to reduce their lending rates with a corresponding decrease in deposit rates. Interest bearing deposit rates fall, income derived from financial institutions falls, and the share market receives a healthy boost. There are two main reasons the share market benefits from successive OCR cuts, the financial markets become more attractive as investors search for yield, and the cost of servicing debt for listed companies is cheaper.

With term deposits rates well below 4%, a common theme has been for investors to migrate from interest bearing deposits to the share market in the search for yield. This has been most notable for the listed property trusts and listed electricity companies as they offer attractive gross yields, some as high as 11.75% (Genesis Energy).

Successive OCR cuts have the effect of lowering the floating interest rate financial institutions charge businesses to borrow funds. As the cost of borrowing decreases the free cash flow available to shareholders increases, which provides the company the opportunity to increase dividends, and is usually a catalyst for share price appreciation.

Goodman Property Trust (GMT) share price appreciation over the past 6 months relative to the 1 month interest swap rate.

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