How Rising Interest Rates Affect the Valuation of Music Catalogs

Low Rate Trend

In recent years, as the Fed established a dovish policy, low interest rates led to fixed-income investors looking outside the bond market. Music catalogs are sometimes considered an alternative to bonds, because they pay out steady royalties.

This has translated into millions of dollars spent on music catalogs, with research showing specialist fund Hipgnosis (HPGSF) spent $12 billion on song rights last year, doubling the record set in 2020. Major record labels and private-equity firms have also made headlines with high-profile acquisitions. Meanwhile, the catalogs themselves have been growing in value, in terms of the multiple paid on net royalties, which doubled between 2015 and last year.

Changing Market

As the central bank raises rates in an attempt to clamp down on inflation, demand for music catalogs could fall. That’s because bond yields and some inflation-indexed assets like real estate may become more attractive in comparison.

In addition to the downward pricing pressure as a result of reduced demand, inflation has the effect of reducing consumer spending power. That means the future cash flows generated from royalties are less attractive to investors. Per the US Copyright Act, royalty rates are controlled by a panel of three judges, and analysts argue they’ve typically been slow to react in situations like this.

What About Streaming?

There’s plenty of data to suggest the best is yet to come for music catalogs and royalty revenue. Wall Street has forecast an average annual growth rate for the industry of 8.4% from now through 2025. Part of that is tied to the potential of music streaming services, such as Spotify (SPOT) and YouTube (GOOGL).

While streaming music has already entered the mainstream here in the US, it’s just getting started in emerging markets such as Latin America. A possible downside is the high cost of data, which could depress demand for streaming on smartphones.

Clearly investors are hopeful royalties can bring in steady cash flow. The question is whether the music stops if other assets start delivering higher yields.

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