As the Reserve Bank of Australia (RBA) gears up for potential rate cuts starting in February 2025, financial markets and individual investors alike are preparing for the impact. Understanding how these changes could affect shares, bonds, property, mortgages, and more is crucial for making informed financial decisions.

Shares: A Boost for Growth Assets?

Interest rate cuts are often favorable for “risk-on” assets like stocks, rate reductions typically provide a tailwind for equity markets by lowering borrowing costs and boosting business profitability.

However, much of the expected benefit may already be priced in as the market often anticipates interest rate cuts well in advance

Certain sectors, such as property, infrastructure, and consumer discretionary stocks, may benefit more than others. These sectors often see improved performance when lower borrowing costs and increased consumer spending kick in. Additionally, a weaker Australian dollar—often associated with lower interest rates—could support companies with international exposure, as their earnings become more competitive on the global stage.

Bonds: A Likely Winner

Bonds generally gain value when interest rates fall, as they are priced off prevailing rate levels. Investors could see immediate gains on bond values following rate cuts.

This gain stems from the inverse relationship between bond prices and interest rates—when rates decline, existing bonds with higher yields become more attractive, driving up their market value.

However, there’s a caveat investors may face diminishing returns if bond yields remain persistently low. The evolving U.S. economic policy landscape, including potential moves by Donald Trump, could also introduce complexities for Australian bond markets.

Property: Cautious Optimism

Lower interest rates typically bolster property markets by making mortgages more affordable and stimulating buyer demand. However, Australia’s high property values may limit the immediate impact.

Property affordability remains a challenge. The national median home value of $815,000 continues to be out of reach for many households. Additionally, the anticipated economic slowdown could lead to higher unemployment, further dampening the property market.

The Australian Dollar: Navigating Volatility

Interest rate cuts often lead to a weaker Australian dollar, which currently sits around US62¢.

Traditionally, the Aussie dollar has been closely linked with commodity markets, and commodity prices are still strong. Despite this, the dollar may face further downward pressure once local rate cuts commence.

If the dollar falls below US60¢, investors with exposure to U.S. markets might consider hedging their currency risks. Hedged exchange-traded funds (ETFs) and managed funds are potential solutions to mitigate currency risk.

Term Deposits and Savings Accounts: Declining Returns

For savers, the outlook is less favorable. As rate cuts loom, competitive term deposit rates above 5% have already disappeared. Current offerings range from 5.15% for a six-month term to 4.7% for two years, according to Canstar.

Term deposit rates may drop by up to 1% over the next year. Savers may need to seek alternative investment options to maintain their returns.

Savings rates are influenced by a range of factors beyond the cash rate, including banks’ appetite for deposits and the cost of wholesale funding. Market competition between banks also plays a role.

Borrowers: Relief in Sight

For mortgage holders, rate cuts signal potential relief. Research from Mozo indicates that 71% of mortgage holders are counting on a February rate cut to manage repayments.

Fixed mortgage rates have already begun to decline, with the lowest rates now around 4.99% for a three-year term. Borrowers should carefully monitor developments and consult financial advisors to determine the best strategies for refinancing or locking in rates.

Additionally, lower loan costs may encourage increased borrowing and investment, which can stimulate the broader economy. However, borrowers should remain cautious and avoid overextending themselves financially.

When and How Many Cuts?

Consumer price index (CPI) data indicates that headline inflation has dropped to 2.4%, while underlying inflation is at a three-year low of 3.2%. These figures bolster the likelihood of a February rate cut.

Major banks have varied forecasts on the number of cuts in 2025:

• NAB expects five cuts.
• Westpac and CBA anticipate four.
• ANZ projects just two.

Labour market data will also play a crucial role in the RBA’s decision-making process. The unemployment rate, which ticked up to 4% in December, is still below the 4.5% level the RBA deems necessary for sustained inflation control.

Navigating a Changing Economic Landscape

As the economic cycle turns, it’s essential to stay informed and make strategic financial decisions. Whether you’re an investor, saver, or borrower, understanding the implications of rate cuts will help you position yourself for success in 2025 and beyond.

Tips for Financial Planning Amid Interest Rate Cuts:

• For Investors: Diversify your portfolio and consider sectors that may benefit from lower rates, such as property and infrastructure.
• For Savers: Explore alternative investment options to offset declining savings rates, such as high-yield bonds or managed funds.
• For Borrowers: Monitor mortgage rates closely and consider refinancing options to secure favorable terms.

By staying proactive and informed, you can navigate this period of economic transition with confidence and ensure your financial goals remain on track.

If you have any questions as to how this may affect your portfolio, please reach out to Cadre Capital Partners.