Briefing: How rising interest rates will impact broker acquisitions

By Saxon East

The dollar is in decline. It’s being debased by central banks printing money. Fiat currencies are in trouble. Buy gold. Buy Bitcoin.

You may have heard this line spun out a few times. But here’s the thing - the dollar’s strength is relative to other currencies.

And right now, the dollar index - a basket versus other currencies - is booming.

The dollar has gained 14% against sterling, for example, in 12 months, according to TradingView (see below).

Interest rate rises will fuel the strength of the dollar as the Federal Reserve, America’s central banking system, looks to combat inflation.

The mandate of the Federal Reserve is maximum employment, stable prices and moderate long-term interest rates.

Right now, inflation is 7% in the UK and 8% in the USA, according to the Office for National Statistics and the US Bureau of Labor Statistics respectively. That’s far too high for central banks and governments to stomach. The path looks set for more interest rate rises.

This means three things for global brokers such as Gallagher, Aon and Marsh.

Firstly, a stronger dollar makes acquisitions globally cheaper. Brokers can use their strong local currency to make purchases in countries with weaker exchange rates.

Secondly, interest rate rises will cool down the stock market. If broker share prices fall, funding acquisitions with their own stock becomes less attractive.

Finally, the overseas revenue generated from acquired operations abroad weakens when converted back into domestic dollars.

There are pros and cons, but it leans more towards being advantageous for the big broker trade buyers.

Private equity impact

The prospect of rising interest rates is more challenging for private equity. The cost of borrowing debt will rise, making healthy returns on broker investments more challenging.

It also means that the pressure on those acquired brokers with high leverage will increase, dependent on the model, with more profits eaten up by interest payments.

One of the reasons Towergate originally fell into such trouble was because it could not keep up with the interest payments on its debt.

There is also the prospect of a rise in interest rates showing up where all the credit bubbles are in the global economy.

The first assets to come under pressure when credit gets constrained are high yield corporate debt, such as junk bonds.

Rolled over corporate debt from brokers will face more punishing interest rates.

Is the era of cheap money coming to an end? Too early to say for sure, but it is definitely cooling.