America just raised rates. Why should you care?

This week, something happened in America that might seem like it has absolutely nothing to do with you.

The US Federal Reserve raised interest rates by 0.25%.

That took the US cash rate to 3.75%–4.00%.

And the vote was 12–0.

Every member voted for the increase.

Now you might be thinking...

“James, that's America’s problem.

“What has that got to do with me?”

Fair question.

I was talking about this with a client earlier this week.

And I explained it like this.

Imagine the world's financial system as one giant ocean.

Every country is a boat floating around on it.

And the US dollar is one of the biggest tides.

When America changes interest rates, that tide moves.

And when the tide moves, every other boat feels it.

Including Australia.

Here's what that can look like.

First, the Australian dollar can come under pressure.

If investors can earn more from US investments, some money flows towards the US.

That can increase demand for US dollars and put downward pressure on our dollar.

And when our dollar falls, things we buy from overseas can become more expensive.

Think fuel.

Cars.

Technology.

Machinery.

And plenty of things that businesses need to operate.

That can make the inflation battle a little harder.

But there is another side to a weaker Australian dollar.

It isn't bad for everyone.

For Australian mining and resource companies, a weaker dollar can actually be helpful.

A lot of the commodities we export like iron ore, coal and other resources are priced in US dollars.

So when those US dollars are converted back into Australian dollars, the same export revenue can translate into more Australian dollars.

That can be a positive for resource companies.

And this is another reason why diversification matters.

The same economic event can hurt one part of your portfolio while helping another.

Importers can feel the pain of a weaker dollar.

Resource exporters can benefit from it.

International shares can get a boost when their foreign currency is worth more in Australian dollar terms.

That's why we don't want to build a portfolio around one prediction.

We want different parts of the portfolio doing different jobs.

Then there are Australian interest rates.

The RBA doesn't simply copy the Fed.

Our central bank sets rates based on Australia's own economy.

As Shane Oliver from AMP has pointed out, the RBA does not simply follow the Fed.

But global financial markets are connected.

Australian bond yields can move because of what is happening overseas.

And that matters because interest rates are one of the big building blocks behind the value of investments.

When the cost of money goes up, the price investors are willing to pay for some assets can come down.

And then there is your mortgage.

Australian banks don't get all their funding from Australian savers.

They also use global funding markets.

So movements in global interest rates can eventually flow through to the cost of borrowing here.

Which means the path to cheaper mortgages isn't just about what the RBA does.

There are other forces at work.

But here's the important part.

I don't think the lesson is:

“America raised rates. Quick!

Change everything!”

That's usually how people get themselves into trouble.

The lesson is to understand what is happening underneath the headlines.

Because when one part of the world changes, it can create opportunities somewhere else.

For example, a weaker Australian dollar isn't necessarily bad for an Australian investor.

If you own international shares and those shares rise while the Australian dollar falls, your return in Australian dollars can get an extra boost from the currency movement.

You can potentially benefit from both the investment return and the currency translation.

Not always.

But it can happen.

And this is one of the reasons I keep talking about diversification.

A good portfolio isn't built on the assumption that we know exactly what is going to happen next.

Because we don't.

Instead, we want different parts of the portfolio doing different jobs.

Some investments might benefit from stronger markets.

Others might provide income.

Some might benefit when inflation is higher.

Others might benefit when interest rates eventually fall.

And international investments can give you exposure to economies and businesses that simply don't exist in Australia.

It's a bit like packing for a family holiday.

If you know it's going to rain, you take a raincoat.

But you don't throw away your shorts.

You pack for different weather.

Because you don't know exactly what the next few days will bring.

That's how I think about investing.

We don't build a portfolio because we know what will happen.

We build it because we know we don't.

And that's probably the biggest lesson from what happened in America this week.

Don't try to predict every wave.

Build a boat that can handle the ocean.

Because when you have a plan, you don't need to panic every time the tide changes.

And there is one date I want you to have on your radar.

Tuesday, 29 September.

That's when the RBA meets again to decide what happens to Australian interest rates.

And right now, the market is putting a pretty high probability on another 0.25% increase.

If it happens, the cash rate would move from 4.35% to 4.60%.

The RBA hasn't made that decision yet.

But the pressure is building.

Reading is helpful. Having a plan is better.

Book your free 30-minute Discovery Session and let’s build a strategy that fits your life.

7Wealth Pty Ltd ABN 44609210246 is a Corporate Authorised Representatives and is authorised throughCobalt AdvisersPty Ltd ABN 64 628 654 099 who is an Australian Financial Services Licensee 512550. 7Wealth Pty Ltd is a Credit Representative ofAustralian Finance GroupLtd ABN 11 066 385 822 (AFG) Australian Credit Licence 389087.
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