So many aspects of the economy are linked together, even when it’s difficult to see exactly how they intertwine. We’ve covered before how decisions by the U.S. central bank, the Federal Reserve, can have trickle-down effects on a variety of consumers. Most notably, when the Fed chooses to raise its federal funds rate target, other interest and loan rates will be affected across the country. The Federal Open Market Committee — the specific group within the Fed that sets the rate target — is scheduled to meet again from June 16-17.
It’s unlikely that the Fed will raise its rate target in June, and no one knows for sure how much the rate will rise over the course of 2015. (Experts have largely predicted it will move from the current rate of 0-0.25% to another full percentage point, at most). In general, talk of raising the rate target means the government believes we’re moving out of the recession for good. But not everyone will win when that happens. With more and more analysts expecting some sort of change during this year, it’s important to make sure you’re affected by rising rates in positive ways, not negative ones.
For instance, financial adviser company the deVere Group issued a press release recently that encourages investors to prepare a “defense portfolio” for the eventual Fed increase. For the deVere Group, the expectation of a rate increase coupled with the International Monetary Fund’s global outlook means investors should be cautious about the months ahead. The IMF released its updated outlook for 2015 on April 15, with expectations that worldwide GDP will increase by 3.5% this year, more than 2014’s growth of 3.4%. But the organization also notes that a rise in Fed’s rate target could cause some unstable conditions, going so far as to describe them as a “cascade of disruptive adjustments.” In the worst case scenario, banks could begin to falter again, though likely not to the scale they did during the height of the recession.
“A wave of defaults, bankruptcies and, at worst, another round of bank insolvencies may follow,” said deVere Group’s International Investment Strategist Tom Elliot. “As such, investors should be ensuring they have a diversified portfolio, preferably holding some cash and avoiding long duration bonds and – if possible – exposure to banks.”
Anticipate stock fluctuations
That’s all well and fine for investors, who likely already are anticipating some fluctuation in the markets, particularly because the New York Stock Exchange fluctuated so wildly in the days leading up to the Fed’s announcement following its March meeting. The market quickly rebounded because the Fed decided against raising rates (and indicated it likely won’t raise them in June, either). Still, it’s likely that if you’ve invested in stocks. you’ll see some activity around the dates of the FOMC meetings. In those cases, the deVere Group suggests waiting out the fluctuations until the market becomes stable again.
The advice is basically to avoid panicking — after all, it’s panic that normally incites the most upheaval in an economic shift. It also helps to be prepared so you can take advantage of the shifting rates, without feeling like you’ve been cheated a month or two after they go in to effect.
Pay down credit card balances
The largest group of people that could potentially be affected by rising interest rates are credit card holders who have large balances from month to month. This is never a good tactic to use for your financial well-being, but it’s especially going to sting if you keep that large balance after the Fed raises its rate target. That target affects the prime rate, which in turn normally increases the annual percentage rate (APR) on your credit card. That varies for every company, but the average at the beginning of June was 13.02% for fixed-rate cards (and hasn’t changed in years) and 15.88% for variable-rate cards, according to Bankrate.com.
The biggest problem with rising APRs — they’re estimated to grow by 1% over the next year — means that consumers will be on the hook for extra interest payments on existing balances, as well as any charges they incur in the future. The advice here is fairly straightforward: If for some reason you’re able to pay off more of your credit card balance but have been putting that money toward other things, pay down more of that amount now. Otherwise, you’re going to be liable for extra “free” money the credit card companies will charge you when the Fed raises their rates.
Hold off on long-term savings commitments
Though consumers have been getting lousy returns on their certificates of deposit from banks, that will likely start to change once the Fed raises their rates. CDs are low-risk investments, but as a trade-off often have very low returns as well. Right now, the average interest rate for a 1-year CD is 0.27%, which rises to 0.86% for a 5-year CD. The highest rates around the country are around 1.25% for 1-year CDs, and often require minimum deposits of $2,000, though that occasionally is as high as $10,000 or $75,000.
Though it does take some time for rates of return at your local bank to reflect a higher rate set by the Fed, those rates should increase in the months following a federal increase. The risk of investing in a CD right now is that, if you have a low rate, you might continue to have a low rate until that CD matures. If you wait to lock in to a CD until the rates rise a bit, you’ll get more return on your investment. If you’ve decided you’d rather save your money in CDs instead of investing in the stock market, there are other strategies, such as laddering your investments, that can help you take advantage of interest rates that might happen in the future.
“The biggest thing is, it pays to do a little research and ask questions,” Cary Guffey, a certified financial planner, told NerdWallet.
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