Rising interest rates could hit 2022 stock market returns

Rising interest rates will pose a threat to stock markets in 2022 as companies face the impact of increased borrowing costs, an analyst has warned.

Stock markets had a strong 2021, but face a number of headwinds in 2022.
Stock markets had a strong 2021, but face a number of headwinds in 2022.

Laith Khalaf, head of investment analysis at pensions and savings platform business AJ Bell, said that in theory tighter monetary policy means a resilient global economy, which should be supportive of corporate earnings.

“However higher interest rates will gradually increase the debt payments requirements paid by companies, which will put downward pressure on profit margins,” he warned.

“Increasing bond yields could also pin back equity valuations, which would undermine stock market returns. This is a particular concern given high valuations in the US, which now accounts for two thirds of global stock market capitalisation, much of this concentrated in a small number of big tech names. If the US technology sector sneezes, then the rest of the world stock market is going to catch a very nasty cold.”

However, Khalaf said that despite the risks the stock market still “looks like the best game in town” when it comes to delivering long-term returns in excess of inflation.

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“Even if monetary policy tightens in 2022, it will still be hugely accommodative, so greater danger to stock markets lies in a significant resurgence of the pandemic, out of control inflation, or a flare up in geopolitical tensions, all of which look like distinct possibilities,” he said.

“So far Omicron has dented rather than wrecked confidence, but it is a reminder that biological developments don’t neatly yield to the traditional tools of market analysis. As ever investors need to tune out the short term noise and keep an eye firmly on the long term, putting money into the market regularly where possible, in order to smooth out volatility.”

The benchmark FTSE 100 has risen by almost 15 per cent during 2021, with the main US indices posting gains of more than 20 per cent.

AJ Bell has forecast the FTSE 100 index will end 2022 on 7,750 points, compared to levels of around 7,400 currently. Its record closing level was 7,877.45 points which was reached in May 2018.

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