For the last twelve months the Federal Reserve has been on a mission to crush inflation by raising short-term interest rates. But will this be sustained? Should I put all of my money into high yield certificates of deposit now? What about mortgage rates? Is 6% the new normal for mortgages? If so, how do I afford a new home mortgage payment at that rate?
When rates first jumped, I was happy for cash savers (yields were higher) but sad for anyone who was trying to buy a home (mortgage payments jumped). Then, I took a step back.
I’ve always taken a big picture view of investing and finances. In addition, investing is like the four seasons in New England—each one brings opportunities but also requires one to adapt (Yes, cold winter nights can be beautiful in New England especially when you are all snuggled up in front of a warm fire, with a blanket and a good book!).
Here are five areas impacted by higher rates and what you can do:
For the last ten years putting money in a bank savings account was like throwing your money out the window—yields were essentially zero (with inflation they were actually negative meaning you were actually losing money by keeping cash in a savings account). In the last twelve months all of that has changed. High yield bank savings accounts are now advertising yields of 3-4% and other super safe investments offer even more. What could go wrong?
Well, investors are expecting short-term interest rates to peak soon. If that holds, those tempting yields are going to start falling. If you are holding cash you may want to consider locking in higher rates now by purchasing longer term Certificates of Deposit or US Treasury securities.1 While longer maturities may yield less than a 12-month maturity, you will be locking a higher rate for longer. This could be especially valuable if interest rates fall faster than expected.
For bond investors, a falling rate environment could be helpful, too. Because the price of bonds moves in the opposite direction of interest rates, falling rates could result in price appreciation for bonds.
Buying or selling a home
When I get together with clients, friends and family these days someone always has a story about the crazy amount of money someone paid for a house down the street. Even with higher interest rates, home inventories are still low and housing prices are strong, especially in good
neighborhoods and for new or recently remodeled homes. If you are a home seller, its happy days. If you are a homebuyer, its pretty frustrating to say the least. But don’t give up!
With mortgage rates up, homebuyers have had to adjust their strategies: bigger downpayments, living with parents (so save money or share expenses), being flexible on home amenities or exact locations, and loan types (think = adjustable rate). Being flexible with these elements can increase your home shopping opportunities.
Buying a car
Thankfully the widely talked about supply chain shortages have subsided for most new cars but that has not caused car prices to fall. Cars just cost a lot more than they did the last time you bought one (I know because I am shopping for a “kid” car right now). Be prepared to pay more and, if you have to borrow, the interest rate will be a lot higher, too. That may mean keeping your current vehicle a little longer than planned.
Similar to homebuying, you can ease the process by saving up a bigger downpayment, getting prequalified and being flexible on features or models. Patience and persistence helps, too. If you are buying a used car be sure to have an independent mechanic inspect it before you buy. I’ve used this strategy every time we have purchased a car and it has saved us from an otherwise terrific-looking car that had major problems under the hood.
Nobody likes paying their credit card bill but nearly everyone likes the convenience, frequent flier points and instant gratification that they bring. That said, carrying a balance from month to month has gotten a lot more expensive. Rates on many cards have gone up with the maximum interest rate as high as 25.99% of your balance. (Now you know why credit card companies are doing so well.) On a $1,000 balance, that’s interest of $259.99 that you have to pay back.
Good strategies include, paying cash or using your debit card instead of credit, cutting up other cards so that you have just one (multiple cards can make it hard to keep track of increasing balances and how much you are really spending). Of course, the hardest (but one of the best strategies) is waiting and saving up for the purchase. Just sayin’.
Taking out a 401(k) loan
Loans at higher rates are bad, right? Well, that depends. When you are borrowing from yourself, the loan isn’t as bad. And that’s what a 401(k) loan is—a loan from yourself. Before rates went up, 401(k) loans could be had for 3.5-4.5%. Depending on your employer’s plan, those same rates are up around 8-9%. The big difference is that you are paying that interest back to yourself—and not a bank.
A 401(k) loan might be a good option instead of taking out a car loan from a bank or car dealer. Keep in mind that if you leave your employer for any reason after you have taken out a 401(k) loan, the entire balance must be paid back immediately. If you are unable to pay it back, the
entire balance will be deemed a taxable distribution. In addition, if you are under age 59½, you’ll also have to pay a 10% penalty on top of the regular income tax. So, consider a 401(k) loan carefully.
Higher interest rates have changed what many of us have been used to for years—low rates and low-cost borrowing. With this new environment, we all must make changes to adapt.
Want to know the best way to take advantage of the higher rate environment? Give me a call. I’m here to help. You can schedule a quick call with me by clicking HERE.
Lyman H. Jackson
· Reducing your tax bill for 2023 https://planwithfps.com/blog/reducing-your-tax-bill-for-2023
· What can I do with my excess cash? https://planwithfps.com/blog/what-can-i-do-with-my-excess-cash
· Selling your home? Understanding tax implications https://planwithfps.com/blog/selling-your-home-understanding-the-tax-implications
1Every person should have an Emergency Fund equal to at least 3-6 months or more of living expenses before tying up funds in any long term investment strategy or illiquid investment. Contact your financial planner/adviser to see what strategies make the most sense for your particular situation and goals.
Financial Planning Solutions, LLC (FPS) is a Registered Investment Advisor. FPS provides this blog for informational and educational purposes only. Nothing in this blog should be considered investment, tax, or legal advice. FPS only renders personalized advice to each client after entering into an advisory relationship. Information herein includes opinions and forward-looking statements that may not come to pass. Information is derived from sources believed to be reliable. Information is at a point in time and subject to change without notice. Such information may not be independently verified by FPS. Please see important disclosures link at the bottom of this page.