How rising interest rates could hit UK stocks - the Goldman Sachs view

Peter Spence
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(Source: Reuters)

As central bank watchers attempt to gauge when the Bank of England will start to normalise interest rates from their post-crisis settings, the number crunchers over at Goldman Sachs have tried to calculate the impact of a rate rise on stocks.

They find that a rise in interest rates is often - but not always - associated with a setback for equities. Looking at the data since 1960, Goldman finds that four out of seven times stocks fell 10 per cent or more when rates were first hiked.

The average peak to trough fall in these episodes was 14 per cent. "Perhaps not quite what we would define as a bear market but nonetheless pretty painful for equity holders while it was happening", says Goldman.

Of course, such a correction is less likely when the market isn't taken by surprise. If investors are well-informed of an upcoming rise in rates, they are able to price in the coming change in monetary policy. That's part of what Bank governor Mark Carney is trying to achieve with forward guidance, by attempting to guide the market on what the future path of interest rates will be.

Goldman finds that those four heavy stock corrections were also seen after the best equity performances in the run-up to rate hikes. In 1988 and 2003, Bank rate hikes didn't result in corrections, after the market had fallen in the prior six months. Right now UK stocks haven't been having a great time, with the FTSE 100 and 250 down 0.1 per cent and 1.3 per cent respectively over the past six months.

The investment bank recently brought forward its forecast of a Bank rate hike, from the third quarter of next year to the first three months of 2015. Goldman suggests that "avoiding a soft patch as rates rise initially is probably unlikely but, given the weakness already seen for UK equities, we see the likelihood of a 10 to 15 per cent correction as relatively low".

(Source: Goldman Sachs)