Investment Options When Interest Rates Fall

After a sharp rise in inflation in the US and Europe, central banks were forced to start a cycle of interest rate hikes. This led to an increase in interest payments on both bank loans and deposits. For the first time in many years, rates moved away from near-zero levels. However, this process was not prolonged; for example, by June 2024, the Federal Reserve had kept rates unchanged for six consecutive meetings. Moreover, in speeches by the Fed Chairman, there are frequent mentions of expected inflation rates returning to target levels and the difficulties of servicing significantly increased debt at high rates. It may be reasonable to expect an easing of monetary policy soon. Naturally, this will lead to a subsequent decrease in deposit rates. Therefore, market participants need to know how to choose investment options when interest rates fall.

The Best Alternatives to Bank Deposits

Certainly, bank deposits are a unique investment instrument. They:

• Protect the depositor’s money from inflation.
• Offer high liquidity.
• Guarantee at least partial return of funds, including compensation from government insurance agencies, bank reserves, or private insurance funds.

However, the yield on deposits does not always exceed inflation, even considering reinvestment and compound interest. Under these conditions, it is challenging to view them as a reliable protective asset. Experienced investors, therefore, consider several options for investing during low interest rates.

Real Estate

Traditionally, the risk level of real estate investments is considered slightly higher than that of bank deposits. Property owners are confident that the value of their assets will increase over time, and they can generate additional income through rental. It is virtually impossible to lose the invested capital in real estate entirely (unless the property is in a ghost town). Additionally, real estate can serve as collateral for obtaining a loan if needed.

Thus, purchasing residential or commercial real estate is quite popular among retail investors. However, it is challenging to consider it an equivalent replacement for deposits:

• The entry threshold is much higher.
• Liquidity is significantly lower—selling a property at a fair price quickly is challenging, and partial liquidation of the asset is impossible (some properties can take years to sell, even at reasonable prices).

Moreover, as central banks raise rates, mortgage costs also rise, potentially reducing demand significantly. This can lead to price drops in both primary and secondary markets, which are usually prolonged and can result in significant losses for investors instead of protection against inflation. High rental costs cannot be expected in such a situation.

Falling real estate prices can be a positive for investors as it reduces the capital needed for investment properties. However, this is unlikely to compensate for reduced deposit rates.

Investing in real estate doesn’t have to involve directly purchasing properties. An investor can buy REIT (Real Estate Investment Trust) securities and achieve acceptable returns with low risk. In most cases, the profits from such investments cover inflation and bank deposit interest rates.

Buying Bonds

Bonds have always been considered a better alternative to bank deposits. The reliability of government or top-tier corporate bonds is unquestionable and is not inferior to bank savings. Moreover, the yield on bonds has always been higher than bank account interest. However, during a crisis, many things can change. For example:

• The yield on short-term bonds may be lower than the central bank’s rate.
• The yield curve may become inverted, with long-term bonds yielding less than short-term ones.

In such cases, buying bonds becomes unprofitable. The investor must wait for new regulatory actions to normalize the situation. However, even then, the forecasted bond yields may not cover the expected inflation rate.

This does not apply to floating-rate bonds, where coupon rates are linked to inflation indicators or bonds with a nominal value indexed to inflation (such as TIPS). These securities are among the best investments when rates drop. They effectively serve their protective function and even provide a real positive return, albeit a small one.

Gold Investments

Gold is considered a protective asset during times of crisis. Its price typically rises in such conditions, allowing investors to protect their capital from inflation and losses, which are inevitable in other markets.

As an alternative to deposits in such situations, purchasing gold bullion seems quite attractive. However, it is essential to consider the deflationary nature of gold and its market demand. Nonetheless, this option has its drawbacks, which nullify its advantages over deposits:

1. The bank spread for trading bullion is extremely high, requiring a significant increase in asset prices to generate profits. At present, with precious metal prices reaching another global maximum, and interest rates remaining unchanged, purchasing would be entirely ineffective. It is unlikely that investors will be able to sell acquired bullion at a profit higher than the inflation rate anytime soon. This strategy might only work within long-term investment strategies for declining rates.
2. Gold does not generate stable interest income, and its price may decrease. Accordingly, the level of risk is much higher than for bank deposits.
3. Additional expenses are required for managing investments in precious metals, primarily for storage, for example, in banks.

Purchasing Stocks and Funds

Many investors, when asked where to invest with low deposit rates, consider securities (company stocks and ETFs) a better alternative to bank deposits:

• Their returns, even from the most reliable ones, are significantly higher, especially during periods of high deposit rates, let alone during rate cuts.
• Many of these securities provide both speculative (through price appreciation) and interest (from dividend payments) income.
• The acquired right to a portion of the issuer’s assets serves as a significant guarantee of fund return in force majeure situations.

Overall, it is a justified choice; however, investors should consider some peculiarities of investing in stocks and funds. Their price volatility is quite high, and during crises, downturns can be significant, and risks unacceptable. Additionally, many issuers suspend dividend payments during crises, eliminating any protection against inflation. Dealing with this issue requires a well-executed portfolio diversification using protective assets.

Ultimately, purchasing stocks and ETFs often prove to be the best investments when rates drop. Investors can achieve the desired result in both long-term and even short-term strategies. However, it all depends on the ability to select investment assets correctly, requiring significant preparation and some experience in financial market trading.

However, not all is grim. There are always options to entrust one’s capital to professionals from investment or brokerage firms, hedge funds. While this entails increased costs due to the compensation of managers (company and fund commissions), the likelihood of achieving the desired financial result (returns higher than inflation) significantly increases.

Cryptocurrency Investments

Not long ago, serious investors viewed working in the cryptocurrency market as nothing more than a casino game. However, it has proven its viability and has become quite attractive due to its high returns. However, today, its volatility is much higher than that of most traditional markets, leading to a significant increase in risks. Additionally, considering certain coins and tokens as investment assets may be reasonable. Most altcoins are unpredictable and suitable only for short-term speculation.

Nevertheless, knowledgeable investors are perfectly capable of achieving brilliant financial results even in such a situation. However, considering cryptocurrency as a replacement for deposits is not advisable — without proper knowledge and preparation, it’s easier to lose everything than to compensate for declining deposit rates.