How to survive Canada’s inevitable hike in interest rates

Trying to read Bank of Canada press releases can be a bit like passing a Rorschach test: they are open to a lot of interpretation.

But after interpreting the Bank’s words these days – and seeing rising inflation – most observers come to a similar conclusion: interest rates will soon rise.

And that, say personal finance experts, means you should take a close look at your household finances, including any debt as well as your investment portfolio.

“Any change in interest rates is going to have a direct impact on your household cash flow right now,” said Chuck Grace, a personal finance lecturer at Western University’s Ivey School of Business.

With annual inflation hovering around 7% in the United States and 4.7% in Canada, the US Federal Reserve and Bank of Canada are not going to sit idly by, Grace said. And acting against inflation, he warned, means raising the overnight rate by 0.25%, the rate the Bank of Canada has held for nearly two years, Grace said.

Even Bank of Canada Governor Tiff Macklem was relatively clear, suggesting in October that the Bank may raise rates “mid-quarters” of 2022. The Bank’s next rate decision will be January 26. .

“When the Fed and the Bank of Canada see inflation at 7% and 4.7%, they are worried. They’re going to do something,” said Grace, who suggested the very first thing most Canadians should do is look at their debt, whether it’s lines of credit, credit cards, mortgages or car payments.

Many, Grace pointed out, are floating rates — if the Bank of Canada’s overnight rates start to rise, the interest you pay on many of your debts will also rise.

“You should carefully consider any debt you hold,” Grace says, “and ask ‘can I afford this at higher rates?’ “”

Moshe Milevsky, professor of finance at York University’s Schulich School of Business, says Canadians should look at both sides of their personal balance sheet — passive and active — before determining how to prepare for higher rates.

“Will a rise in interest rates have an impact on what you owe and what you have to pay? What kind of liabilities do you have? Are they tied to short-term rates, will they expire soon, and you will need to renew at higher rates? That’s a problem – you’ll have to reposition your balance sheet,” Milevksy said. If your mortgage or other large debts are locked in at certain mid- to long-term rates, you don’t have to worry too much, Milevsky said.

On the asset side of the equation, Milevsky says you should take a hard look at your portfolio because any bonds you hold are about to take a hit.

“If you’re bond-heavy, it’s time to prepare for the fact that this party might finally be over after 30 years of rising bond prices, and you may need to reposition that side of your balance sheet,” said Milevsky. “It’s a mathematical truism that when interest rates rise, the present value of a bond falls. It’s foolproof.

The stock side of your investment portfolio, on the other hand, is a bit more complex, Milevsky said.

It used to be that what was bad for bonds was basically good for stocks. That’s not necessarily the case anymore, Milevsky said.

“Whether and how stock prices move is much more tenuous. This relationship seems to have weakened over time. The performance of the economy and the evolution of COVID will have a bigger impact on equity markets than interest rates,” Milevsky said. “If your business operates restaurants, I don’t think interest rates are the biggest concern you’re currently on. ‘Am I allowed to open, can I have people inside? Some sectors of the economy will therefore be sensitive to new factors that did not exist 10 or 15 years ago.

Ivey’s Grace, meanwhile, says there’s nothing wrong with auditing your investments. But completely overhauling your investment strategy just because interest rates are rising doesn’t make sense.

“If you’re worried, talk to your advisor and adjust your portfolio. But don’t drastically change it, unless your needs have drastically changed,” Grace said.

There’s also the danger that any gain you hope to make by switching some of your investments will be overwhelmed, either by fees or taxes, points out Janet Gray, an Ottawa-based financial advisor at Money Coaches Canada.

“People sometimes make emotional decisions. Before making a big decision, take a look at the numbers. Sometimes the right decision is to sit back, smile and do nothing,” Gray said.