Dr James: 0:47
Hey everyone, welcome back to the Denison Invest podcast. We’ve returned in fierce me, James, and also John, who’s, quite a few hours recently, the resident expert for National Advisor. How are you today, john?
I’m very well, mate. I’m surviving the heat, but only just. I live in one of these ultra-energy efficient new build houses, which in the winter, has been amazing because our energy bills have been low, but it doesn’t let any heat out, so it’s just been like a sweatbox all week.
Dr James: 1:16
So yeah, that’s when energy efficiency works against you. Have you got some air calling in there?
No, no, no, just a lot of fans and open doors and cold, cold drinks.
Dr James: 1:27
Okay, fair enough. Well, at least you’re surviving. I’m flipping, thriving, bro. I’m loving it. At the minute. It’s actually really sunny in Northern Ireland. I think this is like the ultimate, the ultimate heat wave of all time in Northern Ireland. I literally can’t remember the last time that it rained, but anyway, we’ve got much better things to talk about in the weather today. I’m sure it don’t match on the aim of the game. It’s to talk about interest rates First of all it’s been what the hell they are, because people only sort of vaguely seem to grasp them most of the time And then also how they impact our investing strategy.
Yeah, so probably the best interest rate to talk about is the one that when most financial people talk about the interest rates, they’re talking about the Bank of England base rate. In the US they might be talking about the Fed rates as well, but we’re in the UK, my knowledge is UK, your audience is predominantly UK, although maybe a bit more global. So Bank of England base rate.
Dr James: 2:19
But the B and we usually follow as the Fed rate right.
Yeah, they don’t like to step too far away from each other. Same with the sort of Eurozone You know they do like to be in alignment with each other. Yeah, no one likes a contrarian central banker, that’s kind of what happened to Theresa May isn’t it No, Liz Truss.
Dr James: 2:45
What the heck Theresa May does it?
Dr James: 2:49
I’m mixing my former PM female Prime Minister’s up just then? Yeah, 100%. Yeah, Liz Truss got caught out of that one. I was besmirched in the good name of Theresa May. Any way going on.
Bank of England base rate, Currently 4.5% As of today. I believe it’s one of those that’s been at 0.5% for most of the last decade And it’s even been lower than that, but has been successively raised over the last 12, 18 months to where we are today, And this is the rate of interest that the Bank of England will lend money at to other institutions, other banks, effectively. So when a bank needs to raise money or liquidity from the Bank of England, they’ll be borrowing out 4.5%.
Dr James: 3:58
Yeah, awesome, cool. And then to build on, so it’s basically the interest rate of loans between banks, kind of loans between banks and the Bank of England.
You then have, like, the London Interbank rate, which is usually there where there are abouts similar to the Bank of England base rate. Sometimes that’s referred to as LIBOR. You might have been offered loans, practice loans or whatever LIBOR plus. It just depends where the bank is sourcing the capital from to pack us together the loans and the products that they’re looking to put together. So what will happen is the nerds at the bank whether it’s Lloyds or Barclays or whatever in the background, using their spreadsheets, are raising money for a portfolio or package of loans. They’ll borrow it from the Bank of England, maybe on LIBOR, and then also from customer deposits, and they’ll look at the cost of raising all this money And then they’ll look at the profit margin they need to make And they’ll lend out at a rate usually above that Bank of England base rate. So, whether that’s a mortgage deal, whether that’s a practice purchase loan, a lot of these things tend to be packaged based on the Bank of England base rate and a few other metrics, which is why it’s been pushing interest rates up for a lot of people 100%.
Dr James: 5:28
So that’s their margin, so to speak, because if they borrow it at one rate, then they have to lend it on at a higher rate, and then the part in between is their profit, right.
Yeah, and so what you will find is sometimes you’ll be able to secure a mortgage rate that is lower than the Bank of England base rate very occasionally But that’s because they’re predicting that the rate will be lower over the average of that deal. So you know that recently and I’m not a mortgage broker but recently with mortgages a five-year deal has been slightly cheaper than a two-year deal on some fixed because they expect interest rates to be falling. Over the last five years, next five years. This week, which is the 15th of June, been a bit of chaos. I thought some prayers with all my mortgage broker friends and colleagues because it’s been a difficult time to be a mortgage broker.
Dr James: 6:26
Can you go into a little bit of detail for those who are not necessarily in that game? So, just for context 15th of June 2023, people, for people who might be listening to this, like way off in the future, that’s where we are right now.
Yeah. So imagine yourself in the sort of the hive mind of a bank. You’re in that central unit where you’re valuing and packaging up all these mortgage products And you’ve had assumptions of where you think inflation and interest rates and the economy are going. So you then package together loaded deals at a certain price And then it doesn’t quite play out how you think, And so what’s happened in the last week or two is a lot of banks have pulled a lot of deals because our inflation in the UK isn’t coming down as quickly as they might have hoped, Which means that there’s a fear that the Bank of England won’t reduce interest rates as quickly as they hoped And some of the deals that they have might not have been as profitable as they were hoping as bankers. So this then has some knock on implications because it means interest rates are going. The new interest rate deals that banks are bringing to market are higher And maybe stretching the affordability of some of the people who are remortgaging, especially if they’re sort of tight on their tight on loan to value and income affordability, But also landlords if their rent coverage isn’t strong enough. I’ve had a few mortgage break friends tell me they’ve been unable to secure remortgages as some landlords this week Doesn’t mean they’ll never be able to, but it just means right now that the numbers just aren’t adding up.
Dr James: 8:26
So interest rates and how they impact our investing strategy and what we can do to mitigate it.
That’s what the people at this point are probably all ears Well, I think what we want to do before we get to into that is why does the Bank of England raise interest rates?
Dr James: 8:49
Yeah, all right, let’s cover that in a little bit.
We were all very happy at 0.5% interest rates. Oh yeah, yeah, exactly, life was good right, and it’s all to do with inflation, inflation being the enemy of every investor, everyone who wants to spend money or invest money. Really, why are we doing it? to protect the value of our money, because inflation is eroding it And, as we all know, from food costs, energy costs the petrol pump is actually coming down a bit now, thankfully, but we’ve had quite high inflation over the last 12, 18 months And the Bank of England has really only got a couple of things that it can do to try and bring inflation down, and one of those is to try and reduce the money supply, because it feels like there is just too much money in the system Makes sense, because what did we have in 2020? We had huge stimulus. Base rates were dropped, we had bounce back loans, we had sea bills, we had huge amounts of money pumped into the economy, billions of money helicopters, so to speak. right, yeah, yeah, billions in the UK, trillions across the globe And now there is just too much money supply and it’s causing inflation because it’s like money is like gas it just fills the space that it has and it’s causing them prices to go up.
Dr James: 10:29
Can I chip in on a really simple analogy on that, one that I used to explain to people, if you think about supply and demand. Right, there is, let’s say, for every 100 units of a certain material, there is like 100 units of cash. Okay, now, obviously, if that’s, let’s reduce the whole economy to that very simple analogy, right, and obviously we have to expand it beyond that because the economy is really complicated. But this is just for the purposes of understanding, right? So you have 100 units of any material, let’s say 100 ingots of gold. Right, and you have 100 units of cash, as in 101 pound coins. Right, so they’re going to be able to be exchanged on a like-for-like basis in that system, right? What about if, all of a sudden, that that money supply is doubled? right, then can you see that all the people who are operating in that system with all that money now, because they have so much more money to bid with, what’s going to happen to the relative prices of that gold? But it’s not just going to happen like that, it’s going to become a little bit of a bid and war, right? So if you take that logic and just apply it to the stuff that we see in the shops, the more people that are going to be able to bid the prices up. That’s literally it, right, 100%. Yeah, love that analogy, and it’s not like a bidding in an auction sense. It’s just that we’re going to the shop. There’s too much demand because we have all this excess money compared to what we did before. There’s an abundance of wealth. Therefore, the shops are like oh well, we got a little bit too much. A little bit, we’re selling our stuff way too fast. We put the prices up, right, and then that’s how inflation happens on a very micro level. We should do a podcast on inflation, because there is a lot of money in that.
We’ll see how we get on time today, but it would be important just to cover up a couple of add to that a little bit, because what happens when interest rates are low is, instead of there being hundreds in gots of gold, people are able to go and borrow the in gots of gold and they would have in a year’s time and spend those to the next in a year’s time and spend those today, and that’s exactly what’s happened. Now some of that money has been used to buy property or to buy businesses or buy assets that will create income, but a lot of this money goes into credit cards, car finance, day-to-day spending and all sorts of other types of debt, where we’ve been spending money that we’re going to earn in the future today. And so, by raising interest rates, what they’re saying is we want you to slow down on spending tomorrow’s money today and just start spending today’s money, because then there’ll be less ability for people to buy these things. prices will have to come down or probably more. what they’re hoping for is that prices will go up more slowly, because this is a common thing with inflation is that people think when inflation comes down, everything is going to go back to the way it was, but it won’t. It will be the same price, but we just wanted to be going up more like slower. So if something was a pound last year, it’s a pound 10 this year. we want it to be a pound 12 next year, not back to a pound, because then we get into deflation and that is a whole nother.
Dr James: 13:57
This is why we need to make the podcast on it, because there’s inflation and deflation and actually they’re both bad. They’re actually both bad. So you want to keep it at the sweet spot of like 2%.
That’s it, two to 3%. Nice and comfortable. And so the Bank of England raises interest rates, and they’ve been doing so successively for a while now. And there’s because inflation is proving more sticky in the UK than we were expecting. They might yet still have to raise interest rates again, whereas people were thinking we might be there and then they can start dialing it down, Because the Bank of England doesn’t want interest rates here. It likes them around about 2% to 3%. So 2% to 3% they can go up to slow down inflation and they can drop them to avoid deflation. They’ve got room to maneuver. At the moment It’s very, very tricky. So when we come on to then invest in, like if our whole purpose is to beat inflation, we’ve got to look for places that beat inflation and understand what our interest rates doing to those investments. So I’d say rule number one when it comes to interest rates and how that affects our investments is it makes anything that’s leveraged more difficult, And I mean leveraged with debt, not leveraged in sort of other ways that people might leverage with people or other sorts of things. So anything that’s got leveraged is becoming more difficult. We see that in the buy-to-let market. We’re seeing it in certain businesses now starting to struggle because they were carrying too much debt and they’re starting to maybe have some problems. So rule number one when it comes to interest rates and investments is we want to try and remove ourselves from leverage because it’s becoming more expensive. Okay, Yeah, oh, yeah, And probably I mean here’s an interesting thing is a couple of maybe like 12 months ago, if someone was being really sensible in stress testing and investment on leverage, they might have gone. We’ll go to 3%, maybe 3.5% base rates and see where we are And they’ll go oh, that’s me being really sensible and boring, and it’ll take ages to get there. And then 12 months later, here we are. Yeah, I’ll go through it. So what we then want to do is, when interest rate rises, something called the risk free rate also goes up, And the risk free rate is the rate of return you can get, or what seemed to be zero risk or the lowest risk, which would be buying government bonds in a global, in a G7 type economy.
Dr James: 17:02
The US inverted commas, though, right. Yeah yeah, yeah.
But in terms of, if you play the mind through, of what is the possibility of these things going wrong in terms of not being able to pay you back at the end of the term of the government bonds or the UK government bond, the US government bond they don’t generally default on their debt, so you would get that back. Now there might be some volatility and stuff through that. That’s another podcast. But this risk free rate has risen So we can now go out. We can go and get 4.5% on our bank of England money And we can go out to the retail banks and we can go out and get interest rates of anywhere from three to 5%, depending on how much we shop around and how desperate for cash that bank is to lend out. So it leaves us with a really tricky conversation really, as investors. If I can go and get between 3.5% in cash or buying a single government bond and holding it to duration, what do I do with my investment? I think it’s really important to remember here inflation is still 9% And so even though that risk free rate on our cash is between 3% and 5%, it’s still losing value in the short term. So we’re going to talk now about the places that we would go when we’re looking at investing And I mean this is going to sound really boring and, like John always says, the same things right, but real assets is where we want to go. We want to go to be investing in things that add value to the global economy. Okay, so they add value because they’re either taking something, making something even better with it and selling it. Like Apple with their iPhones, they take a whole load of component parts that I wouldn’t know what to do with the microchip, but I love my iPhone. They put all these bits together. They create value. We buy it. Wonderful Services, companies that provide services. They take time and knowledge and they turn them into value. Okay, brilliant. If we can go and invest in these things that add value to the world, then we’re going to make money over time because capitalism moves forward. The US stock market, the S&P 500, is actually now into bull territory over the last six months, but off the back of seven companies. It’s only the big seven have done this, partly because of AI and other such things, but companies, because of the way capitalism work, companies are going to be working out how to make profit, they’re going to be innovating and we’re going to see it through. Property again is adding value to the economy, whether it’s a residential property that someone’s going to live in and rent so they can go off and work in the economy in some other way, whether it’s a commercial property and you’re providing housing to a business that’s generating widgets or services. Debt is in lending money, so bonds is when we’re lending money to companies or governments is another way of adding value, because you’re saying, well, maybe I don’t want the full equity risk, but I’ll lend you the money at an interest rate and you go create the value. Now, of all of these, the one where we’re going to get rewarded the most consistently over time is owning companies, because they’re the ones who are adding the most value in this value chain across the market, and well-run companies will be able to adjust prices, adjust their economies of scale to the interest rates and they’ll go and borrow at 4.5% and they’ll go and make 25% profit on that.
Dr James: 21:35
Well, this is it And that you. Sorry to jump in, but I was going to say this at the end, when you were finished talking, i was like that’s why, logically, bonds performance can never outpace equities. Yeah, because the whole point is that they’re borrowing money so that they can make profit on that money, right, yeah, and if these returns were higher than then equities returns, then what that would mean is that those companies are just functioning just to repay the debts, right, yeah, which makes no sense, because that’s the fundamental of a business that you have to make profit. Right, and that’s the thing that confuses people sometimes, because they’re like hey, i want to have a huge portfolio of bonds for my long-term retirement portfolio. Right, but logically, that just can never give you the best returns. But of course, we have to factor in volatility and timeframe as well, which are too important for things. Yeah, but long-term, that’s what should be your thinking.
Yeah, and since the 1950s, companies have outperformed inflation like 71% at the time. If they’re outperforming inflation, it means they’re outperforming interest rates as well. Yeah, okay, because the two are so closely linked. So if 71% is time, pretty much three quarters of the time we’re going to be outperforming it. So in a period of four or five years we’re going to outperform because of the way compound interest works And for most people listening to this, their investment time horizon is life with a need for cash flow, and this is the mindset we need to get into is, yes, we can go and sit in cash for a year and get three or 4%. We don’t know when the stock market is going to start moving properly. We’ve had it with these seven companies because it’s really hard to predict. It’s really hard to predict And an example of how hard it to predict has happened very recently with Nvidia, and I don’t know if you’ve seen the Nvidia story, like what’s happened to their valuation.
Dr James: 23:35
I know the stock went nuts, but I’m not sure if it’s.
The narrative is that they make all the microchips for artificial intelligence. Like all of them, And because of like US and Chinese relations thawing a little bit, Nvidia will be the microchip maker for Western artificial intelligence. Their order books gone through the roof right Now. Chattpt was launched in what? November, December time. Yeah, Nvidia ticked up slowly until their earnings call last month And then their share price. The movement in their share price happened in a 15 minute window after that earnings call started and they mentioned what their order book now was And that’s where the growth in that share price came from. So you just you don’t know when this is going to happen, Right, And you’re either going to have FOMO. Everyone now looks back on NVIDIA and goes why didn’t I see that coming? Right? Because we can’t. We’re terrible at predicting these sort of things. So the game of investing is to be in the game. Okay, So have skin in the game, because markets historically move forward consistently over time. It’s just not always in a straight line, And so don’t go taking three or four percent of money you don’t need for the next five, 10, 15, 20 years, when you could compound in a way, over time, be getting a much larger result.
Dr James: 25:14
Yeah, and here’s the thing you said, that you know the message we feel, because we say it so often that we sometimes bore people. But, it’s worth repeating, because I feel that, even though I talk about it a lot as well, the reason that I speak about it is because I used to be that person who used to try to jump in and out of the market, and the mental bandwidth that takes to do that just means there’s so many other areas of your life are sacrificed, and plus as well as that, unless you really really, really know what you’re doing and you’ve refined that skill over a long period of time, you don’t even beat the market anyway, right? So you’ve kind of got two real options, in my view Either you become the quintessential passive investor, where it’s just set and forget and you hijack these effects that we talk about, or you prepare yourself to go on the arduous journey of understanding really in depth how a particular asset class works, so that you can beat the market, so to speak. But that path is not for everybody. It depends on what you want. I’m not, i’m not. I wouldn’t say to people necessarily that it’s not for anyone, right? But what I would say is that the majority of people and what they want from their investment experience, in that they just want to allocate a little bit of bandwidth to it and have their money grow in a residual way, continuously in the background, then the passive method is likely the best way. Are you with me?
Shall I tell you what I think about this. Yes, why do we invest? It’s because we want to spend our time doing things we really love doing Boom Right Now. Again. Take that Nvidia example. You miss that 15 to 20 minute window at the start of that earnings call of that one company and you’ve lost, missed out on the growth in that company this year And it’s gone. It’s not coming back. There’s no other time to jump back in on that because AI is not going.
Dr James: 27:04
Going by Nvidia from this part past.
Right. So why would you want to invest your money? so you can spend all of your time trying to make an additional 0.235 0.5% over time? Because that’s what the great investment managers will be doing. Is getting that half percent to 1% compounded over time to our form, right? Why would you do that? If actually what the reason you’re investing your money is to have more leisure time and more freedom and more bandwidth to spend time with the family or go on holidays or whatever it gets completely counterintuitive to what we’re trying to achieve and what the purpose of investing money is.
Dr James: 27:53
And can I just add one little tiny thing on top of that as well? You know, if you do want to put some effort into something to make more money, the most reliable way to do that is to learn the skills that you can apply into your life to generate better cash flow. As a dentist, right, i promise you you’ll make more money and much faster. But no one really wants to acknowledge that because it sounds too much like hard work in my opinion. That’s why because people want the quick gains, but the pursuit of the quick gains hold them back from the easier opportunities that are in their hand to increase their cash flow and have more freedom. Today, boom. And here’s the thing I say that you know that took me a long time to realize That. Took me a long time to realize, right, when you can boost your cash flow today, then what it means is that you can go to work one day less a week because you’re earning the same money as you were doing previously and you’re doing it in a day less every single week. Right, when you have that mindset, actually, you can make more money much faster in my opinion. But horses for courses, of course. So that’s certainly, certainly what I’ve seen and observed in most dentists. John, we’re going to wrap things up now, coming up to the 30, 40 minute mark, is it anything in the back that’s saying conclusion?
Oh, there’s lots, but I’m sure we’ll find a time to jump on another podcast and talk about all of that. I think the main thing is that the time of making easy profits is. you know, in investing is behind us. It’s fundamental, diligent, disciplined investment that’s going to make money over the next three, four, five years. There’s not going to be because interest rates are where they are, because the bank is tightening money. You have to have a process, you have to have a. this is the way I invest and stick to that disciplined process And that’s, for me, the main thing. with interest rates being where they are, we’re seeing there were a lot of property investors at the moment, the ones who didn’t have a strategy, didn’t have a plan, didn’t have a process, and now finding themselves a bit corner place, a tight spot. It’s happening the same with some investors as well.
Dr James: 30:10
Thank you, as ever, for your wisdom, John. If anybody wants to reach out to John, feel free to search him on the group John Doyle or wwwjuniperwealthcom.
John couk, yeahcouk, juniperwealthcouk and at juniper underscore John on Instagram and Twitter. You can also find me on LinkedIn. Find me everywhere, just not TikTok too old for TikTok.
Dr James: 30:38
What’s your earliest on LinkedIn? Is it John Doyle?
My, no, you mean my sort of username. You can find me as John Doyle, but I think I’ve got one like from years ago.
Dr James: 30:55
Yeah, it’s quite cool, let me just find it. It’s like it’s not one of those embarrassing ones like when you make when you’re 16 or something like that.
No, no, no, no, no. It’s like it’s in my LinkedIn domain is entrepreneur, financial planning. Oh, that is cool Actually. yeah, yeah, yeah, john.
Dr James: 31:17
I’m really glad I asked about your LinkedIn username. I’m really glad. All right, listen, let’s draw a line under it there. Always a pleasure. My friend will speak very soon. All right, nice one.