Rethinking interest rate risk in an uncertain market

Summary

Geopolitical conflict, trade policy, persistent inflation, and shifting central bank expectations are widening the range of potential interest rate outcomes. Longer-term yields also face pressure from government borrowing, fiscal concerns, and massive investment in AI, energy, and infrastructure. For finance leaders, waiting for a clear directional signal may offer little clarity.

Instead, the focus is increasingly on how different rate environments could affect the business and which risks are worth retaining or protecting against.

Across Chatham’s client base, organizations are reassessing their risk management programs with that in mind. Some clients we’re talking to are looking further out on the curve as financing horizons lengthen, while others are revisiting hedges they previously deferred. The market views and hedge instruments vary, but the objective is similar: building resilient strategies that can withstand a wider range of outcomes.

Look beyond the next central bank decision

The interest rate conversation often centers on the Fed, but the short end of the curve is only part of the picture. Persistent inflation remains a concern, while fiscal pressures, Treasury supply, and investment in defense, energy, and AI infrastructure could keep longer-term yields elevated. Internationally, central banks face different economic conditions, with implications for currencies, capital flows, and hedging costs. Against that backdrop, Chatham is seeing clients reconsider assumptions that guided risk decisions over the past several years, focusing more on how a range of rate outcomes could affect their businesses.

Keep pace with a changing risk profile

As companies grow and evolve, the risks that matter can change with them. Mercury Technologies offers one example. The financial technology company started in 2019 and scaled through the near-zero-rate environment that followed the onset of COVID-19. As rates rose beginning in 2022, deposits became a more significant contributor to revenue and profitability.

“For us, it’s a direct input to how we actually think about revenue,” said Dan Kang, CFO at Mercury.

Kang’s priority was to ensure Mercury could continue investing and growing without making long-term decisions that depended on a favorable rate environment.

“We wanted to make sure we are growing the company in a way that would still make sense, even if rates were to come down to what we would consider a neutral rate,” Kang said.

Mercury also invested in products and revenue streams that could build a broader, more durable revenue base.

Understand market pricing dynamics

Identifying an exposure is only the beginning. Effective hedging also requires understanding what the market is pricing and how that impacts the cost of protection. Mercury encountered that dynamic when it explored hedging with Chatham in 2022. Markets were pricing significant rate cuts, making protection against falling rates particularly expensive. Mercury decided to wait.

“The cost of putting in any type of hedge wasn’t really worth the protection at that point in time,” Kang said.

The decision underscores an important point: Identifying a risk does not automatically mean it should be hedged. The economics need to support the strategy.

Know the risk you are willing to own

Finance teams should assess how different rate scenarios could affect the business, how much variability the organization can absorb, and where greater certainty offers strategic value.

That analysis may lead an organization to fix part of its exposure, use options to preserve flexibility, or retain the risk when protection is too expensive. The appropriate strategy depends on the exposure, objectives, risk tolerance, market pricing, and time horizon.

For Mercury, the economics of protection became more attractive as the market and the business evolved. Mercury ultimately implemented interest rate collars, buying floors to protect against declining rates while selling caps to offset some of the cost. The structure provided downside protection while still preserving some ability to benefit from a higher rate environment.

Prepare for a range of outcomes

Mercury’s experience shows why risk management decisions should evolve with both the business and the market. Rather than hedge simply because an exposure existed, the company waited until the economics made sense, then chose a structure aligned with its objectives.

Risk management is not about placing a perfectly timed trade. Recent years have shown how quickly geopolitical events and company-specific developments can disrupt even well-supported market expectations. For Mercury, that meant approaching hedging less as a question of market timing and more as one of portfolio construction, with hedge positions diversified over time and across different rate environments.

“Dan and the Mercury team were thoughtful about what they wanted the hedge to accomplish and disciplined about when to act,” said Jon Sundberg, director of client engagement at Chatham Financial. “They understood their exposure, but they were equally focused on the economics and making sure the strategy supported the broader business.”

That same discipline applies more broadly. Finance teams should understand where rates matter to the business, assess the impact of a range of outcomes, and determine how much risk the organization is willing to retain. From there, they can evaluate whether available strategies offer the right balance of protection, flexibility, and cost.

The right answer may be to hedge now, structure protection differently, or wait. What matters is having a clear framework for making that decision and revisiting it as conditions change.

Markets will continue to challenge expectations. Resilient risk management enables finance leaders to prepare for that uncertainty without having to predict what comes next.