The Fed moved to increase interest rates by half a percentage point on Wednesday. This is the biggest increase in two decades, but it’s in line with the path that many financial experts and economists predicted the central bank would take.
Implementing the rate hikes is an effort to stabilize runaway inflation, the annual rate of which rose by 8.5% in March. As the Fed raises interest rates, it’s expected that will gradually slow down consumer demand and decrease pressure on prices. While this should be a good thing long term, it can also leave many people wondering what to do with their money when things are so uncertain.
Rate hikes can create volatility in the stock market and push up interest rates on mortgages, car loans, and credit cards. So sometimes the best move you can make is to be patient, says Thomas Kopelman, financial planner and cofounder of Kansas-based AllStreet Wealth. Especially when things are not within your control.
“As humans, we worry about everything and we want to control everything,” Kopelman says. “There’s nothing that we can control about how interest rates are going to be changing.”
Rate hikes like this are far more likely to impact older Americans closer to retirement age (or those already in retirement) than younger investors who typically have a longer timeline to save for their future.
For investors who are looking for advice in light of the Fed rate hikes, here are some recommendations that financial planners are giving their clients right now.
Seriously consider buying I bonds
Investing in Series I savings bonds, known as I bonds, right now is a “gimme,” says Patrick Beagle, a certified financial planner (CFP) and owner of Virginia-based WealthCrest Financial Services. That’s due in part to the fact that the I bonds will pay 9.62% interest through October.
Beagle, who has more than 20 years of experience, says he’s never recommended government bonds before, but last week he sent an email blast to all of his clients suggesting they buy them.
There are some restrictions with I bonds, including that the maximum purchase is $10,000 per year per person (although investors can use their tax refund to buy an additional $5,000 per year), and you must hold the bond for five years to lock in all the interest. If you sell an I bond after less than a year, you forfeit three months of interest.
But even with these caveats, Beagle says it’s a deal. “So I hold it a year, big deal,” he tells Fortune. At minimum, investors will earn 9.62% interest for the six months. And then even if the interest rates go down to, say, 4% over the next six months, the average is still way more than any bank account or short-term CD can do.
“Would I do that with all the money in my cash reserve? Absolutely not. But between short-term bonds or CDs or I bonds, I would default to I bonds,” Beagle says, adding that he’s invested in these himself.
Borrowing will get more expensive
With Wednesday’s rate hike—and several more expected throughout the year—mortgage rates will continue to ramp up. After the first rate hike in April, 30-year mortgages quickly crossed the 5% line, hitting 5.37% last week. Rate increases like that could significantly impact homebuyers’ plans.
“If you are applying for a fixed rate mortgage, you should probably lock in your rate as soon as possible,” says David Mendels, director of planning at New York City–based Creative Financial Concepts.
But don’t just rush into a decision, says Kopelman. If you are considering moving or buying a home for the first time—or really any purchase where you’re going to have to finance it—you need to approach that carefully. Those who currently have a $500,000 house and refinanced it so they’re paying only a 2.5% interest rate are in good shape. But if they move and need a mortgage, they’re probably looking at a 5.5% rate on the new house.
Sometimes moving is unavoidable, but for those looking simply to buy a bigger or better home, it might be worth thinking twice since you could easily be doubling your monthly housing costs without getting a lot more home for the increased expense, Kopelman says.
“You need to see what size house is now affordable based on the interest rate because it is going to drive up your payment,” he adds.
For consumers who did refinance and are sitting on good rates, they may be better off investing any extra money right now as opposed to focusing on paying down that debt as quickly as possible, says Elliot Herman, a CFP and chief investment officer of Boston-based PRW Wealth Management. But he adds this applies only to low-interest loans. Paying off credit card debt—the average rate which now sits at 16.36%— and other high-interest loans should be a priority as interest rates continue to climb.
Cash is still good to have for short-term goals
With inflation at record levels, it can seem like having savings sitting in cash is a bad idea. But it’s not the worst solution if you’ve earmarked that money for a short-term goal like buying a house in the next couple of years or setting money aside for emergencies.
“It is still okay to be in cash,” says Andrew Marshall, a CFP and California-based financial planner. Cash savings is just fine, especially because there’s a significant possibility that stocks struggle from here, Marshall says. You don’t want to take $100,000 that you’ve set aside to buy a home and invest it in the S&P 500, only to find two years from now that it’s worth only $75,000.
But if your goals are longer-term, then you may want to consider at least putting some of that money to work, says Ryan Firth, a financial planner and founder of Texas-based Mercer Street. “What I’ve seen in my practice is that some clients are sitting on cash, which is earning nothing and, given inflation, is eroding their purchasing power. So just getting them to put that money to work is important,” he says.
Despite the uncertainty around the impact of ongoing rate hikes, inflation, and the U.S. economic outlook, investors should focus on controlling what they can, Kopelman says. And financial advisers will almost always give you the same advice: Pay off high-interest debt and save for the future. This is a long game.
This story was originally featured on Fortune.com
Source: https://finance.yahoo.com/news/fed-just-raised-rates-half-195158059.html