Low Rates, More Risk

Lower interest rates encourage people to take more risks, in general. There is little question about this.

By taking short-term interest rates to zero, which I had no objection to, the federal reserve “forced” me to find better ways to allocate my cash.

Take a look at Marcus, my “high-yield” savings accounts. I wasn’t exactly doing backflips when this was yielding 2%, but it was enough for me to keep a large-ish cash position. At 0.5%, I went looking for other options. Riskier options.

I’m 36 and have a stable income. I can afford to take more risks. If I get into a jam, I have several different buckets I can tap.

Is my experience representative of the average investor? Hard to say.

I was thinking about this idea of “lower rates forcing people out onto the risk spectrum” when I saw this chart from State Street.

Okay, wait a minute. If everyone is taking more risk, then who plowed $17 billion into fixed income ETFs in July? And if everyone is taking more risks, then how do we explain this?

For years, we’ve seen massive flows into bond funds and ETFs, even with rates low and getting lower. And simultaneously, even with stocks high and going higher, we’ve seen massive flows out of stocks funds and ETFs.

Are lower interest rates pushing up the valuation of stocks? Without a doubt. Are lower interest rates pushing people into SPACs? Eh, I don’t know about this one. People were doing crazy shit with their money in the 90s when the 10-year was at 6%.

I’m taking more risks in an area of my portfolio that I would prefer to have no risk. That’s a direct result of the fed taking rates to zero. But I’m not taking even more risks with areas of my portfolio that are already at risk. I continue to buy index funds every two weeks in my 401(k) and every month in my taxable account. I’m not YOLOing into call options on SPACS. I’m not going all-in on Pudgy Penguins. I’m taking risks, but I’m not sniffing glue.

It’s hard to make broad, sweeping statements about the market like “the Fed is forcing people out on the risk spectrum.” While I think there’s more than a little truth to this statement, the market is not monolithic. People have different goals, risk tolerances, and time frames that are not impacted by macroeconomic forces.

Interest rates might be the most important variable in the economy, but there are plenty of other factors that people consider when it comes to investing.