While low interest rates can be leveraged to fuel business growth, it’s important to weigh the pros and cons.
In response to the recession spurred by the COVID-19 pandemic, the Federal Reserve signaled that interest rates will remain low through 2023. This environment could provide a unique opportunity for many organizations to take steps to fortify themselves for the coming financial cycle.
“Current absolute rate levels and financing spreads are conducive to building liquidity for future needs, while carrying costs are relatively low,” explains Deron Smithy, Executive Vice President and Treasurer of Regions Bank. He adds, “Liquidity is the lifeblood of any business and can help build a bridge to better times.”
Some organizations are considering taking this opportunity to support growth plans, optimize the structure of their balance sheet, improve financing costs, and provide much-needed capital for the recovery ahead. However, before moving forward, they should consider some risk factors.
Weighing the Risks
Smithy points out that business leaders who are debating whether or not to take advantage of low rates should remember that pent-up demand and unprecedented fiscal and monetary stimulus, when coupled with improving labor conditions and COVID trends, which may help the economy snap back in the near term, could also fuel greater inflation and end this period of so-called easy money.
With that in mind, business leaders should avoid becoming overly reliant on using low rates to maximize cash flow. While Congress and the Fed have recognized the importance of liquidity in times of financial stress, relying on low rates for the long term can be short-sighted.
“Do not expect robust growth and low rates to exist for an extended period. If indeed we experience strong growth in the second half of 2021 and into 2022, the potential for an unwanted rise in inflation increases,” he warns.
Business owners should use this environment to manage risk for the intermediate term and set their business up for success in a continued economic expansion. Some approaches may include:
- Evaluating the maturity profile of the organization’s entire liability structure and ensuring that future refinance needs are not overly concentrated
- Refinancing, consolidating, and/or extending maturities of obligations that are set to mature over the next few years while absolute rates and borrowing spreads are at historically low levels
- Avoiding becoming overleveraged or too reliant on low rates to maximize near-term profits. Use this environment to manage risk for the intermediate term and set your business up for success in a continued economic expansion by evaluating strategies to hedge financing costs in a rising-rate environment
- Prefinancing growth plans at very attractive levels
Before moving forward, Smithy encourages businesses to perform “what if” analyses to determine how high financing costs could rise before expansion plans are challenged and to carefully think about these strategies to reduce that risk. He encourages business leaders to seek the guidance of their relationship manager to help them develop a through-the-cycle approach to effective risk management.
For more guidance, speak with a commercial banker and visit regions.com/commercial-banking/corporate-banking.
