ECB and Fed cut interest rates: What does this mean for investors?

The monetary policy of central banks

Looking back helps to better understand central banks' monetary policy: Since the 2008 financial crisis, both the European Central Bank (ECB) and the Federal Reserve (Fed) have pursued a very loose interest rate policy in order to stabilize the economy and promote growth.

The ECB gradually reduced its key interest rate and reached a historic low of zero percent in 2014. At the same time, it introduced negative interest rates on commercial banks' deposits in order to stimulate lending. This so-called “zero interest rate era” persisted until 2022. In addition, in 2015, the ECB launched an extensive program for quantitative easing (QE), in which it bought government and corporate bonds to pump additional liquidity into the market.

But due to the corona pandemic, Russia's attack on Ukraine and the resulting runaway inflation, the ECB raised interest rates ten times in a row from 2022 and gradually reduced its expansive monetary policy. It had its highest level Eurozone inflation achieved at more than ten percent in October 2022.

The tight interest rate policy of central bankers had an effect and As a result of the resumption of inflation, the ECB then cut interest rates in the euro area for the second time in a year in September 2024. The trend-setting player on the financial market Deposit interest fell by 0.25 percentage points to 3.5 percent.

The Fed followed a similar pattern to the ECB. After the financial crisis, it also reduced interest rates to almost zero percent and held them there until 2015. Monetary authorities then began gradually raising interest rates to around 2.5 percent until the COVID-19 pandemic in 2019. With the outbreak of the pandemic in 2020, the Fed once again cut interest rates to almost zero percent and launched further QE programs. Due to high inflation from 2022, the Fed began to raise interest rates very quickly to up to 5.5 percent.

Since economic growth proved to be much more robust than expected, the US Federal Reserve also decided on a new interest rate in September 2024. For the first time in around four years, the monetary authorities decided to significantly lower the key interest rate by 0.5 percentage points to a range of 5 to 4.75 percent and have thus also initiated the interest rate turnaround in the USA. According to the Fed's outlook, there will be two more minor interest rate cuts this year; four interest rate hikes are currently planned for 2025. However, the further extent and sequence of future interest rate hikes is not set in stone and depends on economic data in the Eurozone and the USA. But market observers assume that interest rates could fall further on both continents.

For investors and borrowers, this monetary policy has far-reaching consequences: The key interest rate cuts also tend to make borrowing cheaper for companies, while savings deposits such as overnight or fixed-term deposits yield less. Accordingly, investors should think about redeploying their portfolio.

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What falling interest rates mean for investors

The key question for investors in the coming months is therefore likely to be: “Where will I still get a good return in the future beyond interest rate products? “Of course, a blanket answer is not possible, but experts believe that equities and alternative investments in particular could now be worth a look at.

Because while interest rate cuts mean a worsening of conditions for savers who invest in fixed or overnight money, they often offer opportunities for investors on the equity markets. Historically speaking, interest rate cuts on stock exchanges have mostly been received positively, especially when they are interpreted not as an “emergency solution” but as a sign of central banks' confidence in economic development.

Interest rate cuts are having a positive effect on the equity markets on several levels:

• Investor behavior: Lower interest rates make fixed-income investments less attractive as their returns fall. This drives investors to shift to higher-yielding investments such as stocks, which increases liquidity on the stock market and causes prices to rise.
• Financing conditions: Loans are becoming cheaper for companies as interest rates fall. Lower financing costs encourage investments, which further improves the economic environment for equities.
• Valuation of stocks: Interest rate cuts influence the calculation of the future value of companies. Since cash flows are discounted less heavily when interest rates are lower, company valuations often rise, which has a positive effect on share prices.

However, the reaction of the markets depends heavily on general economic developments and the specific situation of companies.

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Alternative investments as low-interest rate beneficiaries?

In addition to exchange-traded products, the focus is now also on alternative assets, as investors are looking for investment forms with attractive returns, which can increase the inflow of capital. In addition to real estate, which is likely to benefit from low interest rates, alternative investments also include private equity and other tangible assets such as infrastructure investments or collectibles. Continuing digitalization is also making it possible for alternative asset classes to become more accessible to private investors. This is because new technologies make it possible for an entire industry to offer innovative products and services. These developments could be driven by ELTIF 2.0 reform, new Crypto regulations and trading platforms such as FINEXITY, which have opened up the market for alternative investments to a wider audience, are receiving further momentum.

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