So you might ask what is the Caviar Index – it is simply a measure of the good times. When times are good – or we perceive them to be - then we start to live like lords again. We dine out more – at better restaurants – luxury car showrooms become busier and so and so on. Based on Australian economic data we supposedly have been living off a green paddock with rich pickings over the last few years – better than most in the western world at least. But yet few people would proclaim that these have been years of milk and honey and in fact on the contrary it has sort of been hard going some would say.

Just quietly though I think the Caviar Index is about to escalate and for a wider cross section of the social strata. Not even falling bond prices will prevent many from indulging.

Rising interest rates are on the front pages again – don’t you like the media bandwagon?

You will recall that falling bonds result in rising interest rates and in turn this impacts on equity markets and more importantly, for many, on rising property prices. So this makes great front page headlines with a tendency to freak out those overcommitted in property especially the gamblers who used deposit bonds to highly gear investments in mutli storey apartments towards the end of the cycle.

From the monthly bond chart below you will note that bonds have been at their highest levels for over 15 years – interest rates at their lowest. Since mid 1997 bonds have oscillated between 93.60 and 95 - a period of relatively stable interest rates.

click chart for more detail

Take a look at the weekly chart below however and the more detailed picture shows how the trend of bonds is now well and truly downwards.

click chart for more detail

The upward move since early 2002 has been broken and prices are in a well defined downward channel. Out of curiosity you might like to look at a daily chart for yourself. But you will see that it really tells you little about where bonds and therefore interest rates might be going – it is almost useless. That is why it is important to make sure you are looking at the right chart.

Whilst the steep decline in bonds over the last few months looks ominous the reality is that they are more likely to retrace upwards before they head further south and this is likely to happen following an increase in interest rates over the next months or so. That will satisfy the bond players for the moment.

Interest rate policy management is not as raw as it was in earlier decades and “cool handed Luke” Greenspan has shown great dexterity over recent years in taking the peaks and roughs out of the cycles.

As any increase will more likely be 25 basis points initially it is unlikely to spook the equity markets. A key factor behind an increase will be to take the heat out of the overboiling property markets and this is more likely to plateau the markets rather than cause them to fall asunder.

Further increases will continue in to 2004 and as rates escalate it will affect different market sectors in different ways. Sectors most likely to be affected are building materials, consumer discretionary and banks. I propose to cover the impact on each of these sectors at the forthcoming SITM November Conference.

So the Caviar Index looks appetising for the medium term – but if interest rates rise by greater than 1% over the coming year then we could see a nose dive in the Index. Remember from previous articles I have spoken about consumer indebtedness. Where borrowings are for today’s consumption – indulgent borrowings – as opposed to debt for capital creation – then sharp increases in interest rates can cause some degree of panic for those over extended.

Always keep an eye on the Caviar Index!

Enjoy the ride.

Tom Scollon