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Lower Rates

     Lower interest rates affect investor's lives in a major way. It was shocking to recently hear a business commentator say that having the Federal Reserve lower the Federal Funds rate a quarter of a percent would have no affect on anyone he knew. Well maybe he was right if he was referring to his small circle of friends, but if he was referring to investors, companies, or the markets he was dead wrong. A quarter point reduction on a $3,000 credit card balance may have little effect on the cost of interest for an individual, but the picture is very different when you look at large amounts. A company with a large amount of variable rate loans can easily save thousands or millions of dollars from even a quarter of a point reduction in the interest rate it pays. The reduced interest cost increases earnings. The multiplication effect is significant. The increased earnings can be used for purchasing equipment or giving salary increases. If the equipment is purchased, that along with the benefit of lower rates to the equipment manufacturer multiplies to the companies they buy goods from. If the first company can give a larger salary increase to an employee, keep from laying-off employees, or hire new employees due to the interest savings, this has a multiplication effect. The employee might go out to dinner to celebrate the raise or being offered a new job. The restaurant they dine at buys more supplies and if sales increase enough maybe they contract for the kitchen remodeling project they've been thinking about. Each of these events in turn has a multiplication effect. A positive multiplication effect is certainly preferable to a negative multiplication effect where earnings are reduced, employees are cut, the equipment manufacturer cuts employees, and the restaurant reduces their staff and orders fewer supplies.

    Lower interest rates translate into a lower prime rate, which creates lower mortgage rates. This in turn increases the purchase of homes and increases the number of refinances. The lower mortgage payments put more spendable income into the pockets of homeowners who are usually happy to spend it. When the Federal Reserve lowers interest rates it takes 4-6 months for it to be fully integrated into the economy. Lower interest rates make stocks look more attractive than fixed income bonds to more conservative investors. The anticipation of higher corporate earnings will also work well for stock prices and investors, lifting the value of stocks, which are frequently valued based on expected earnings. Even further cuts in interest rates by the Federal Reserve, as many economists predict will occur, will create some nice results in the second half of the year. Expect good things to come.


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