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What to expect if the RBA cuts the cash rate in October

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With the Reserve Bank of Australia (RBA) board due to meet on October 6, speculation is mounting as to whether they will reduce interest rates further in a bid to stimulate the economy.

Since 2016, interest rates have been reduced five times and are now at an historical all-time low, and while Australia has weathered the COVID storm quite well, I don't think anyone would agree that the economy is in great shape.

The stock market is recognised as a leading indicator of the economy and if we look back at the growth of the All Ordinaries Index since January 1, 2016, we find that it has risen just over 13%, which is not that spectacular. Nor is it a sign of a booming economy, so you have to question whether lowering interest rates has been beneficial.

market wrap rba cash rate

In March of this year, the RBA dropped interest rates twice, down to 0.25%, due to the COVID-19 pandemic.

While lower interest rates have made it a little easier for those with mortgages, you have to ask if it has really stimulated the economy. At a quarter of a per cent, interest rates can't go much lower, so I doubt a further drop will do much, instead it is time to re-think the strategy, as I suspect that the Government's continued support for JobKeeper and other stimulus packages may do more.

It is highly likely that this low interest rate environment will last a few more years and bring increased opportunity for those who take advantage of it.

Now is a great time to look at the benefits of reducing your mortgage versus using the extra cash flow and/or home equity to fund further investments. Additionally, if the government is successful in its bid to relax lending laws to make it easier to borrow money as recently announced, this will add weight to the argument that you should use this opportunity to increase your wealth.

While I am all for reducing debt on your home loan as quickly as possible, there comes a time when it is more beneficial to use the equity in your home to invest for your future.

As all too often, people pay off their home loan before looking to invest, as they believe this creates more financial security. However, while this may be somewhat true, the mere fact of paying off your home loan before you invest severely restricts your ability to create wealth.

The opposing argument is to create more wealth in your life, as this gives you more security, especially when you consider that investing in good assets can also lead to paying off your home loan faster.

More importantly, building wealth earlier in life results in more assets in retirement, which has to be good. Everyone should look at this low interest rate environment as a once in a lifetime opportunity to not only reduce housing debt but also invest for the future. Of course, if the government relaxes lending laws, the opportunity will get even bigger.

Best and worst performing sectors this week

Healthcare is up more than 4% followed by Consumer Staples up more than 3%, while Industrials and Utilities are both up more than 2%. The worst performers include Materials down more than 3% followed by Energy down more than 1% and Financials, which is just in the red.

Looking at the ASX top 100 stocks, the best performers include Transurban Group up more than 6%, while Whitehaven Coal, Xero, Cochlear, Sydney Airport and Woolworths are all up more than 5%. The worst performers include Virgin Money down more than 16%, followed by Evolution Mining and Northern Star Resources, which are both down more than 11%.

What's next for the Australian share market

In a nice change, the Australian stock market fell away earlier in the week only to rise later in the week and, it now looks set to close higher than it opened for the week.

However, before you get too excited believing the recent down move is over, it is part of normal market fluctuations for price to move in the opposite direction before continuing the longer-term move.

Given that the All Ordinaries Index has been falling over four weeks and, at one stage, was down 6.5%, it is likely we will see it rise for one or two weeks before it falls away again.

As I have been saying for quite a few weeks, the market is slowly moving down into its next low, which I believe will be below 5800 points and possibly as low 5400 points. While I still expect this to occur, anything can happen in the market given the uncertainty around the world; therefore, if the rise is longer than two weeks, this may change my opinion.

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Dale Gillham is chief analyst for Wealth Within (AFSL 226347). He has an Advanced Diploma and Diploma of Share Trading and Investment and more than 25 years' experience in the financial services industry.
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