When the Federal Reserve (Fed) raises interest rates, it can have significant impacts on global share prices due to the following reasons:
Cost of borrowing: Higher interest rates make borrowing more expensive for companies. This increases the cost of capital for businesses, reducing their profitability and potentially leading to lower stock prices. Companies may also face higher interest expenses on their existing debt, which can negatively affect their earnings and investor sentiment.
Investment alternatives: When interest rates rise, fixed-income investments like bonds become more attractive compared to stocks. Investors may shift their investments from equities to bonds, seeking higher yields and lower risk. This increased demand for bonds can lead to a decrease in stock prices as investors sell off their shares to invest in bonds.
Capital flows: Rising interest rates in the United States can attract foreign investors seeking higher returns on their investments. As capital flows into the US, it can lead to a strengthening of the US dollar. A stronger dollar makes exports more expensive, which can negatively impact multinational companies' revenues and earnings, affecting their stock prices.
Investor sentiment: Interest rate hikes by the Fed can signal a tightening of monetary policy and an attempt to control inflation. This can create uncertainty and concern among investors, leading to a decrease in confidence and a sell-off in the stock market. Negative sentiment can cause a domino effect, with investors selling shares and further driving down prices.
Debt burden: Higher interest rates increase the cost of servicing debt for both individuals and corporations. This can lead to reduced consumer spending and business investment, impacting corporate profits and, consequently, stock prices.
Global interconnectedness: The global financial markets are highly interconnected, and actions taken by the Federal Reserve can have ripple effects worldwide. Interest rate hikes by the Fed can lead to capital outflows from emerging markets as investors move their funds to the US seeking higher returns. This can result in declining stock prices in these markets as well.
It's important to note that the relationship between interest rates and stock prices is complex and can be influenced by numerous factors. Other economic indicators, geopolitical events, and market sentiment also play a significant role in shaping global share prices.