On March 15, the Federal Reserve raised interest rates for the first time in 2017. Federal Reserve Chairman Janet Yellen moved the benchmark interest rate a quarter percentage point higher, to a range of 0.75% to 1%, and the Fed indicated that the market could expect two more rate increases this year.1
So what does this all mean for you?
The answer depends on whether you look at it from a standpoint of being a borrower, a saver, or an investor. Later in this post, we’ll take a look at all three scenarios. But first, here’s a bit of background as to what an interest rate increase actually is, and why they occur.
A Quick Briefing on Federal Reserve Interest Rate Policy
When the Federal Reserve gets together to set interest rate policy, they are really aiming to control the federal funds rate through what are known as “open market operations” – basically the buying and selling of bonds.
The federal funds rate is arguably one of the most influential interest rates in the U.S. economy. It affects monetary (borrowing) and financial conditions, which in turn can have a material impact on economic factors like employment, growth and inflation. The higher the federal funds rate, the costlier it is to borrow money. The opposite is also true – as the Fed lowers the federal funds rate, it is meant to make it easier (less costly) for banks to borrow money and to hopefully go out and lend it.2
In the current environment, the Federal Reserve believes that the US economy has expanded significantly enough and is on solid footing – hence the decision to raise interest rates on March 15. Assuming that the economy continues to grow modestly this year and the job number stays low, the Fed appears likely to continue on its current course of bumping the rate up twice more.
What Does This Mean for You?
Let’s break it down by looking at it through the lens of a saver, a borrower, and an investor.
Borrowers
Borrowers could see a near-term impact. For people with revolving debt like credit cards or adjustable-rate mortgages, you could see potentially see increases to your payments within 60 days. The first borrowers to be affected could be credit card holders and those with home equity lines of credit, so if that applies to you be sure to keep a close eye on your payments.
Savers
Savers shouldn’t get too excited about higher savings rates on instruments like CDs or deposit accounts. Banks are already starting from such a low point – according to Bankrate, savings accounts pay an average of 0.11%, with 1.25% on the high end. One-year CDs are paying about 1.24%. Savers may see a slight bump to those rates, but they’re likely to remain pretty paltry.3
Investors
There are a myriad of factors that affect performance in the stock and bond market, like corporate earnings, GDP growth, and the regulatory environment. So, when considering the impact of interest rates, it’s important to bear in mind that interest rates alone are not likely to make or break performance.
While past performance may not indicative of future results, history suggests that the stock and bond market can do well in rising interest rate environments. According to Goldman Sachs research, global equity prices have often rallied in the year leading up to policy rate-hike cycles, and they’ve also done well in the year following the onset of rate increases—with the health of the economy a key consideration.
Bond portfolios have also fared well – history shows that diversified bond portfolios have often turned positive within a period of a few years, even amid rising interest rates.
The data supports this assessment. According to Goldman, the S&P 500 Index gained an average 17% during the 12-month periods leading to the “rising-rate regimes” in 1994, 1999 and 2004. They also found that the S&P 500 added to the gains in the year following the beginning of the rate hike cycle – the index added another 6%, on average, in the subsequent year.4
Is Your Portfolio Ready for Rising Rates? Ask a Wealth Manager
As the Federal Reserve poises to raise interest rates moving forward, it could make sense to have a “check-in” with your investment portfolio – in addition to reviewing other aspects of your financial situation. A Wealth Manager at WrapManager can put your investment and financial accounts under the microscope to tell you if you could be affected by rising interest rates, and what you can do to adjust accordingly. Get started today by giving us a call at 1-800-544-7774 or send an email to wealth@wrapmanager.com.
Sources:
1. USA Today
2. Investopedia
3. CNBC
4. Barron's: Goldman: How Do Stocks Act When Rates Rise?
