What Is Interest Sensitive Stock?
An interest sensitive stock is a stock that is especially influenced by changes in interest rates. Interest sensitive stocks including financial institutions, highly leveraged businesses, and companies that pay high dividends. An interest rate sensitive stock isn't intrinsically worse or better than a stock that is insulated against rate changes. Interest rate sensitivity simply means that the interest rate and interest rate projections become a key part of analyzing the stock as an investment.
Key Takeaways
- An interest sensitive stock is a stock that is especially influenced by changes in interest rates.
- Financial institutions, highly leveraged businesses, and companies that pay high dividends are all examples of interest sensitive stocks.
- Some stocks are especially sensitive to interest rates because of how their sector or business model operates; for example, utilities, REITs, and telecommunications companies often pay high dividends and are often bought for the income they generate for investors.
Understanding Interest Sensitive Stock
In general, stocks tend to be sensitive to changes in interest rates, but some stocks are leveraged to interest rates because of their business model. For most stocks, low rates typically mean lower interest rate expenses on borrowed capital. This can result in higher levels of income as the cost of capital is lower overall. Low interest rates also affect valuations. Analysts use the risk-free rate when they determine the intrinsic value of a stock (with the rates on Treasury securities widely used as the risk-free rate). A lower risk-free rate typically translates into a higher intrinsic value.
Some stocks are especially sensitive to interest rates because of how their sector or business model operates. For example, utilities, REITs, and telecommunications companies often pay high dividends and are often bought for the income they generate for investors. For this reason, these stocks are often referred to as "bond substitutes." Just as bond prices decline when interest rates rise, so do these bond substitutes. When interest rates rise, investors shift out of these sectors on the belief that they can gain a similar level of income without the risk that stocks present.
Homebuilders may also see their share prices fall when interest rates rise. Rising interest rates mean higher mortgage rates, which can translate into fewer home purchases. Companies with large debt levels will also be very rate sensitive because their cost of borrowing is likely to rise. Highly leveraged companies already face an analysis discount depending on their debt-to-income ratio. In a rising interest rate environment, this discount increases.
Banks and financial institutions are, of course, also very sensitive to interest rates. Much of a bank's income comes from its net interest margin—the difference in the rate it pays on its bonds (and its account holders) and the rate it charges on the loans it makes. Because a bank typically borrows on a short-term basis and lends on a long-term basis, rising long-term rates typically boost the net interest margin, bank income, and, therefore, the price of its stock. This is a bit oversimplified as there are many other considerations when evaluating any stock, including banking stocks.
FAQs
An interest rate sensitive stock isn't intrinsically worse or better than a stock that is insulated against rate changes. Interest rate sensitivity simply means that the interest rate and interest rate projections become a key part of analyzing the stock as an investment.
What are the benefits of interest sensitive contracts? ›
Key Takeaways. Interest-sensitive whole life insurance includes traditional whole life features but responds to fluctuations in market interest rates. These policies can deliver faster cash value growth and reduced premiums when interest rates are high, but worse performance when rates are low.
What is an example of an interest sensitive asset? ›
Interest sensitive assets are financial products whose features and characteristics or their secondary market price are vulnerable to changes in interest rates. The adjustable-rate mortgage is an example.
Where to put money when interest rates drop? ›
How to maximize interest in light of falling rates
- High-yield checking.
- High-yield savings.
- Online bank accounts.
- Credit union accounts.
- Mutual bank accounts.
Interest-rate sensitive stocks--especially in the S&P 400 and S&P 600 Financials, Real Estate, Utilities, Industrials, and Materials sectors--rose the most (chart).
What is the purpose of interest rate sensitivity? ›
Interest rate sensitivity is a measure of how much the price of a fixed-income asset will fluctuate as a result of changes in the interest rate environment. Securities that are more sensitive have greater price fluctuations than those with less sensitivity.
What does interest sensitive mean in life insurance? ›
Interest-sensitive life combines permanent coverage with interest rates tied to market indexes. Cash value growth fluctuates based on the external index's performance. Offers potential for higher returns than guaranteed whole-life products. Flexibility to change indexing options is a key benefit.
What bonds are most interest rate sensitive? ›
Long term bonds are most sensitive to interest rate changes.
What does sensitive investment mean? ›
Sensitivity refers to the impact on a security given a change in some relevant factor. A bond, for instance is measured by its price sensitivity to interest rate changes (its duration), as well as the duration's sensitivity itself to changes in rates (its convexity).
Which of the following securities are the most interest rate sensitive? ›
Utility and preferred stocks are the most interest rate sensitive. Utility stocks are interest rate sensitive because they are highly leveraged.
Savings accounts are a good place to keep your cash safe and secure – even if interest rates aren't particularly high. The longer you can lock your money away, in general, the higher the rate you'll earn on your money.
Where can I put my money to earn the most interest in USA? ›
The safest place to put money is in an interest-earning bank account at an FDIC-insured bank or an NCUA-insured credit union. There's no risk of losing your money. You'll find the best interest rates at online banks. Government securities like T-bills and I Bonds are also considered safe options.
How do you profit from falling interest rates? ›
Here's how to invest and what to invest in when rates are dropping:
- Bonds and bond funds.
- Real estate and housing.
- Preferred stock.
- Financials.
An interest sensitive stock is a stock that is especially influenced by changes in interest rates. Financial institutions, highly leveraged businesses, and companies that pay high dividends are all examples of interest sensitive stocks.
What stocks will go up when interest rates go down? ›
Here are some sectors and types of stocks to add if interest rates decline:
- Technology stocks.
- Small-cap stocks.
- Consumer discretionary stocks.
- Real estate stocks.
- Financial stocks.
- Cryptocurrency assets.
- Commodity stocks.
Bank stocks increase in value during periods of inflation, which makes them appealing to investors. Higher net interest margins: Banks earn money from the difference between the interest rates they charge on loans and the interest rates they pay on deposits.
What are the benefits of interest rate derivatives? ›
Advantages
- Risk Management: These derivatives allow businesses and individuals to manage interest-rate risk associated with loans, investments, and other financial obligations.
- Enhanced Flexibility: ...
- Access to Alternative Investments: ...
- Customization:
A confidentiality clause can protect sensitive information and trade secrets by legally obligating the recipient party to maintain the confidentiality of the disclosed information. It prohibits the recipient party from disclosing the information to third parties without the written consent of the disclosing party.
What are the benefits of interest in negotiation? ›
Principles of Interest-Based Negotiation
This approach increases the chance of establishing a good relationship with the other party and achieving outcomes that are mutually beneficial. Persuasive principles or criteria of fairness and legitimacy are used to establish standards both parties can agree to.
