INTEREST RATES AND EQUITIES

Countries with strong Central Banks that adopt hands-on approaches to their currency valuations have the ability to drastically impact the markets through a very simple device: the raising or lowering of interest rates. This gives them a measure of fine-tuning over the markets that can help stabilize a country, impede inflation, or pull an economy out of a recession or stagnation.

At its most basic, the relationship between low interest rates and equities is easy to understand: it’s about a risk to profit ratio. Government bonds are extremely safe investments; short of a government collapse, or a total loss of economic stability in the country, they will always pay out at the rate they are given. Equities, on the other hand, have varying degrees of risk that are always greater than a government bond. The reason that risk is acceptable is because the potential for profit is so much greater. The attraction of equities to low- and mid-risk investors is therefore directly attached to the gap in profitability between bonds and stocks.

When interest rates are at 1.5% or 2%, for example, option bonds may be attractive to low-risk investors, even though they would almost certainly be out-performing that return with a good portfolio in the binary option  market, so long as the market as a whole was seeing some upward movement. When interest rates rise above 2% they become attractive to an even broader group of investors. When large investment funds start moving into bonds, the repercussions for the stock market can be quite noticeable, with equities suffering across the board.

Conversely, when the government brings interest rates down to 0%, any attraction they may have for all but the most risk-averse investors vanishes entirely. As a result these investors are forced to move into higher risk investments, and the equities market tends to reap the largest share of this gain.