Part One: Savings & Debt
Similar to that saying about the weather, it seems everyone has been talking about the likelihood of rising interest rates, but nobody seems to be doing anything about it. Are interest rates going to go up soon? When? How much? These questions pale in comparison to what most investors really want to know: How will rising rates affect me (and can I do anything about it)?
If you have a savings account:
It’s important to recognize that savings account rates are set by the banks, not by the Fed. As suggested in this Wall Street Journal column, “How Your Rates Will Move When the Fed Does,” each bank’s relative liquidity and desire to attract more deposits may influence its savings account rates as much as or more than the Federal Reserve’s target rates.
This article shared the following observation from banker and former board member of the Federal Reserve Bank of Philadelphia Ted Peters: “There is a tremendous amount of liquidity in the market, so banks aren’t really hungry for deposits.” In his blog post “Is the Fed Pulling or Pushing?” Stanford University senior fellow and economist John Cochrane similarly suggests: “Deposits are flooding in to banks, not loans out of banks.”
The take-home: Don’t bank on your savings account yields leaping upward as quickly as you might wish following a Federal Reserve interest rate increase. Savings are for funding near-term goals or to serve as rainy-day emergency cash, and not a whole lot more. If you’re seeking yield to create long-term wealth, you’ll want to shift an appropriate portion of your savings into low-cost, well-managed investment vehicles (stock and bond funds).
If you have a credit card:
In any market climates, we generally advise against maintaining a high balance on your consumer credit cards. As a widely applicable rule of thumb, the relatively high rates you pay on credit card debt today is almost always going to detract from tomorrow’s financial well-being.
Credit card debt becomes particularly burdensome when interest rates are on the rise. As described in this Motley Fool article, unlike your savings account rates, “the credit cards in your wallet are intricately tied to the movements of the Fed. … A rising federal funds target rate should lead to a rising prime rate, and thus a higher interest rate charged to variable rate credit card holders.” This Consumer Reports piece further suggests that those with lower credit scores may feel the sting more aggressively, as banks hedge their bets against potential default.
The take-home: “Don’t buy stuff you cannot afford” may seem obvious, but it bears repeating, even when it’s not April Fool’s Day advice. If you are already facing high credit card balances, there’s no time like the present – or yesterday, for that matter – to be in touch with an objective wealth manager to help you review your available options for paying it down.
If you have a home equity line of credit:
The aforementioned Consumer Reports article suggested one way to avoid high credit card rates may be a home equity line of credit. Actually, that may or may not be the right choice for you. Home equity rates may be lower, and competitive forces may dampen their direct connection with rising Fed rates, as suggested in this Washington Post piece. Then again, others suggest that the relation may be more similar to credit card debt.
The take-home: After all, it is your home that you’re putting on the line. Before you take on or increase your home equity debt, you may want to first invest in an objective financial planner who can help you weigh the risks, opportunities and alternate possibilities.
Next week we will cover how rising interest rates may impact you as an investor.
Sage Serendipity: Get ready for some drone traffic. BloombergBusiness reports that Wal-Mart is joining the flock of retailers testing drones. Amazon and Google have also been testing small package deliveries to people’s homes but we’re still a few years and FAA rules away from actual drops. Wouldn’t it be great if they designed them to look like storks?