Higher Interest Rates Could Hurt the Fragile Consumer Driven Economy

In March 2017, the Federal Reserve raised the interest rate once again. This is the third time the Feds upped the rate since the 2008 financial debacle. According to Fed Chairman Janet Yellen, more hikes are coming. Higher interest rates mean it cost more for companies to borrow money, and it cost more to expand their business ventures. Consumers pay more for goods and services. If consumers cut back on discretionary spending, businesses will take in less revenue. Wall Street knows from experience that an interest rate hike means a drop in stock prices. But the last five interest rate hikes didn’t have that effect on stocks. Even though many investors say stocks are overvalued in 2017, it is still a bull market.

Financial expert and investor, James Dondero, the president of Highland Capital Management, analyzes the U.S. Treasury yield curve constantly. The U.S. Treasury yield curve plots bond interest rates against the length of their maturity time. A normal yield curve slopes upward because the yield on a 30-year bond is higher, and their price is lower than a 5-year bond. If investors think the short-term yield will fall, they invest in long-term bonds. That inversion signals slower growth and the start of a recession. According to Dondero, the yield curve has inverted prior to every recession that occurred since 1969. Right now the yield curve is still normal, and stocks continue to do well with a yield curve this steep.

Higher Interest Rates

The Feds rate hike doesn’t mean a rapid drop in stock prices or a slowdown in consumer spending, according to Dondero. Economists think the recent rate hike will not have a negative impact on the U.S. economy because interest rates are still low at the moment. But if the Feds raise interest rates to choke off credit, then there is cause for concern. Dondero believes the Feds are not raising rates to stop borrowing.

The fate of the current bull market and consumer spending is in the hands of the economy. The U.S. economy is driven by consumer spending, and spending habits are changing. Another interest rate hike in 2017 could be the straw that breaks the bull market and slows down consumer spending. But another fly in the interest rate hike ointment is the global economy. Many economists say the global economy is in trouble. Some investors are expanding their exposure to stocks, and they are making a huge bet the global economy will not collapse. That’s not a good bet, according to investors like George Soros, Warren Buffet, and Jim Dondero as well as other hedge fund managers. Big hedge funds are dumping stocks and investing in other assets like gold because the global economy is weak.

Jim Dondero is a University of Virginia graduate. Dondero co-founded Highland Capital Management in 1996 after managing successful investment portfolios for American Express and a subsidiary of Progressive Insurance. Highland Capital Management has more than $16 billion in assets under management, thanks to James Dondero’s investing skills. Dallas-based Highland Capital has offices in Seoul, Singapore, Sao Paulo and New York, so investing in emerging markets is an important strategy for Dondero. Thanks to his accounting background, and his knowledge of collateralized loan obligations, he is one of the most respected hedge fund managers in the industry. Dondero is also known for his philanthropic endeavors.