Analysts expect Federal Reserve to hike interest, higher rates to weigh on firms with high debts

The Federal Reserve building

The US Federal Reserve is expected to increase interest rates by 25 basis points (bps) up to six times this year to contain inflation rates, which hit the highest level in 40 years last February, analysts told Argaam.

The higher policy rate will be reflected on the performance and results of the banking sector, which positively finances companies.

Mazen Al-Sudairi, Head of Research at Al-Rajhi Capital, said most analysts expect the US central bank to hike policy rates six times by the end of 2022.

The rate will be hiked to go in tandem with the rise in inflation, after inflation forecast signaled a 7% rise, compared to the annual average of 5%.

Moreover, the US central bank’s attempts to contain inflation reflects its serious efforts in this regard, especially as the jobless rate is less than 4%, Al-Sudairi added.

Elsewhere, Iyad Ghulam, Head of Equity Research at SNB Capital, said the geopolitical developments and implications of the Russia-Ukraine war have been the key driver for markets recently.

Inflation was the biggest challenge before the emergence of this crisis in Europe; therefore, raising the policy rates was important, Ghulam told Argaam. Inflation is on the rise, hitting record highs, particularly in the US, he added, pointing to concerns about the negative impact of war.

Markets expect a rise of 25 bps in interest rates. If the Federal Reserve fails to hike rates, inflation is going to be out of control.

Moreover, a rate hike of 50 bps, or less, will weigh on markets, Ghulam elaborated, expecting policy rates to be raised four times this year, to cushion against the impact of political crises on markets.

Mohammed Al-Omran, Head of the Gulf Center for Financial Consultancy, said the rate hike would impact companies with high debts, mainly the industrial firms that received loans from banks and development funds, after reassessing the interest rates of such loans.

He told Argaam in a phone call that the interest rates are forecast to be raised seven times in 2022. “If we assume that the increase is estimated at 25 points each time, this will be equivalent to nearly 2% by the end of 2022,” he noted.

The rate hike will raise the Saudi Arabian Interbank Offered Rate (SAIBOR) by about 3%. When adding interest margins, the rate would reach 4 – 5%. “This percentage will rise for the heavily-indebted companies due to their weak credit rating.”

Al-Omran further said banks that have larger call deposits will benefit from the high-interest rates, and record solid margins.

The Saudi government issued sukuk and bonds at fixed and variable rates. The banks that bought these instruments at a fixed price will not capitalize on these investments, and may record a negative valuation, Al-Omran said, noting that such banks would have to allocate loss provisions due to high interest rates.

He indicated that there have been several investments in fixed-income and foreign currency instruments over the past years, with the aim of benefiting from low-interest rates and attractive returns of international bond issuances of emerging countries, which range between 8 and 9% annually.

“Part of such investments was in the Russian market,” Al-Omran affirmed, adding, “this means that we might see unpleasant surprises with the results of Q1 2022”.

On the other hand, Al-Sudairi expected higher policy rates to have a positive impact on banks, adding that the benefit of banks will be higher than firms hit by debts. The market will also show a positive response, buoyed by the rise in banks’ earnings.

Ghulam also added that lenders will largely benefit, while companies with high debts will suffer, as they will face big challenges. He also expected the direct impact of this to appear in the second and third quarter of the year.

Ghulam also said that today’s energy prices have no relation to the US Fed decision on rate hike, as energy sectors, among others, are fully focusing on war, exports, oil supply, and supply chains.

At times of stability, the policy rate hike is a function of reducing commodity prices, he concluded.