Navigating equity volatility and higher rates

The US is raising interest rates to combat inflation at a time when conflict in Europe is roiling equity markets and threatening to tip the global economy into recession. Volatility is always challenging, but using existing holdings to generate liquidity can help investors diversify and manage risk.

The US Federal Reserve’s first interest rate increase in over three years has done little to calm the world’s equity markets. The March 16 decision to lift US policy rates by 0.25% had been intended to head off rising inflation. But since Russia invaded Ukraine on February 24, investors have been concerned that higher rates could help tip the world’s biggest economy into recession as the impacts of the war become clearer.

The US last raised interest rates in December 2018, before cutting the policy setting to zero in the face of the Covid-19 pandemic in early 2020. Since then, markets have been betting on the timing of the first increase, with a watchful eye on economic indicators – and especially prices.

Once US inflation hit a 40-year high, with the consumer price index rising by 7.5% year on year in January, the timing of the Fed’s first rate rise became a foregone conclusion. A further 0.5% increase followed in early May, and there are calls to take the policy rate up to 2.5% by the end of 2022.

The worry for equity markets, however, is that inflation is now forcing the Fed to increase rates at precisely the wrong time.

Russia’s invasion of Ukraine triggered an unprecedented array of international sanctions that have sent global commodity prices soaring, adding more pressure to already high inflation. Oil prices hit US$139.13 on March 7, the highest since 2008. This adds to the case for higher interest rates to cool price rises, but – on the other hand – the shock to the global energy system could also have a profound effect on economic growth.

Spiking oil prices have been devastating for economies in the past, most notably after the 1973 Yom Kippur War and the 1979 Iranian revolution – both of which were followed by severe US recessions.

Economist Paul Krugman has argued that the real hits to growth half a century ago came not from oil prices but from the policy response, warning that the Fed should not allow itself to be “bullied” into raising rates as dramatically as it did in the 1970s.

It is too soon to predict the direction the Fed will take in the remainder of 2022, and much will depend on the progress of the war in Ukraine. History suggests, though, that a rising interest rate environment will introduce more volatility to public equity markets.

Growth stocks have already been hit hard as investors factor in a higher risk premium on future cashflows. As of May 16, the US Nasdaq index had lost 25% of its value since the beginning of the year.

Some corners of the technology sector have fared even worse. Chinese stocks in the US have collapsed, as fears of further US sanctions on China and renewed Covid restrictions compound an already bleak outlook for growth. Digital assets have also been in turmoil, with prices of major cryptocurrencies tumbling by 30% or more in the first half of May.

Shelter from the storm

Managing this kind of volatility is a challenge for any investor, and especially concerning for shareholders whose wealth is concentrated in a single equity position.

With careful structuring, however, equity financing can help investors diversify their exposure without giving up on the long-term potential of the underlying stock.

Equity-backed lending allows investors to raise flexible funding for any purpose, such as investing in assets that are likely to outperform in a rising interest rate environment. After a strong run for growth stocks, for example, shareholders may consider monetizing part of their growth portfolio in order to invest in high-quality value stocks, which typically do well when rates rise.

Long-term shareholders can use equity financing to borrow money at a low rate of interest, as the shares are used as collateral to reduce the risks to the lender. Equity financing also allows investors to retain the potential for long-term appreciation in the underlying stock, as well as dividends.

EquitiesFirst is ready to work with accredited investors, professional investors, and otherwise qualified investors with experience of securities financing to discuss ways to mitigate the risks ahead for the equity markets as interest rates ratchet higher.

Disclaimer

Past performance does not guarantee future returns, and individual returns are not guaranteed or warranted.

This Document is intended solely for accredited investors, sophisticated investors, professional investors, or otherwise qualified investors, as may be required by law or otherwise, and it is not intended for, and should not be used by, persons who do not meet the relevant requirements. The content provided herein is for informational purposes only and is general in nature and not targeted to any specific objective or financial need. The views and opinions expressed in this Document have been prepared by third parties and do not necessarily reflect the views and opinions of EquitiesFirst. EquitiesFirst has not independently examined or verified the information provided herein, and no representation is made that it is accurate or complete. Opinions and information herein are subject to change without notice. The content provided does not constitute an offer to sell (or solicitation of an offer to purchase) any securities, investments, or any financial products (“Offer”). Any such Offer shall only be made through a relevant offering or other documentation which sets forth its material terms and conditions. Nothing contained in this Document shall constitute a recommendation, solicitation, invitation, inducement, promotion, or offer for the purchase or sale of any investment product by First Holdings, LLC or its subsidiaries (collectively, “EquitiesFirst”), nor shall this Document be construed in any way as investment, legal, or tax advice, or as a recommendation, reference, or endorsement by EquitiesFirst. You should seek independent financial advice prior to making an investment decision about a financial product.

This Document contains the intellectual property of EquitiesFirst in the United States and other countries, including, without limitation, their respective logos and other registered and unregistered trademarks and service marks. EquitiesFirst reserves all rights in and to their intellectual property contained in this Document. The Document should not be distributed, published, reproduced or otherwise made available in whole or in part by recipients to any other person and, in particular, should not be distributed to persons in any country where such distribution may lead to a breach of any legal or regulatory requirement.

EquitiesFirst make no representation or warranty with respect to this Document and expressly disclaim any implied warranty under law. You acknowledge that EquitiesFirst is not liable under any circumstances for any direct, indirect, special, consequential, incidental, or punitive damages whatsoever, including, without limitation, any lost profits or lost opportunity, even if EquitiesFirst has been advised of the possibility of such damages.

EquitiesFirst makes the following further statements that may be applicable in the stated jurisdiction:

The information contained on this Document is intended for persons located in Australia only and classified as a Wholesale Client only as defined in Section 761G of the Corporations Act 2001. The distribution of information to persons outside this criteria may be restricted by law and persons who come into possession of it should seek advice and observe any such restriction.

The material contained in this Document is for information purposes only and should not be construed as an offer or solicitation or recommendation to buy or sell financial products.

The information contained in this Document is intended to be general in nature and is not personal financial product advice. Any advice contained in the Document is general advice only and has been prepared without considering your objectives, financial situation or needs. Before acting on any information, you should consider the appropriateness of the information provided and the nature of the relevant financial product having regard to your objectives, financial situation and needs. You should seek independent financial advice and read the relevant disclosure statements or other offer documents prior to making an investment decision about a financial product.

Dubai: Equities First Holdings Hong Kong Ltd (DIFC Representative Office) at Gate Precinct Building 4, 6th Floor, Office 7, Dubai International Financial Centre (commercial license number CL7354) is regulated by the Dubai Financial Services Authority (“DFSA”) as a Representative Office (DFSA Firm Reference No.: F008752). All rights reserved.

The information contained in this document is intended to be general in nature, and, to the extent that it is perceived as advice, any advice contained in this document is general advice only and has been prepared without considering your objectives, financial situation, suitability of the financial products or your needs.

The material contained in this document is for information purposes only and should not be construed as financial advice, including an offer or solicitation or recommendation to buy or sell financial products. The information contained in this document is intended to be general in nature and any advice contained in this document is general advice only and has been prepared without considering your objectives, financial situation, suitability of the financial products or your needs. Before acting on any information, you should consider the appropriateness of the information provided and the nature of the relevant financial product having regard to your objectives, financial situation and needs. If you do not understand the contents of this document, you should consult an authorised financial adviser.

This document relates to a financial product which is not subject to any form of regulation or approval by the DFSA. The DFSA has no responsibility for reviewing or verifying any documents in connection with this financial product. Accordingly, the DFSA has not approved this document or any other associated documents nor taken any steps to verify the information set out in this document, and has no responsibility for it.

Hong Kong: Equities First Holdings Hong Kong Limited is licensed under the Money Lenders Ordinance (Money Lender’s Licence No. 1659/2024) and to carry on the business of dealing in securities (Type 1 licence) under the Securities and Futures Ordinance (“SFO”) (CE No. BFJ407). This Document has not been reviewed by the Hong Kong Securities and Futures Commission. It is not intended as an offer to sell securities or a solicitation to buy any product managed or provided by Equities First Holdings Hong Kong Limited and is only intended for persons who qualify as Professional Investors under the SFO. This document is not directed to individuals or organizations for whom such offers or invitations would be unlawful or prohibited.

Korea: The foregoing is intended solely for sophisticated investors, professional investors or otherwise qualified investors who have sufficient knowledge and experience in entering into securities financing transactions. It is not intended for, and should not be used by, persons who do not meet those criteria.

United Kingdom: Equities First (London) Limited is authorised and regulated in the UK by the Financial Conduct Authority (“FCA”). In the UK, this Document is only being distributed and made available to persons of the kind described in Article 19(5) (investment professionals) and Article 49(2) (high net worth companies, unincorporated associations etc.) of Part IV of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (‘’FPO’’) and any investment activity to which this presentation relates is only available to, and will only be engaged in with, such persons. Persons who do not have professional experience in matters relating to investment or who are not persons to whom Article 49 of the FPO applies should not rely on this document. This Document is only prepared for and available to persons who qualify as Professional Investors under the Markets in Financial Instruments Directive.