Earlier this month, The Federal Reserve raised its target short term interest rate benchmark by .25%, from .75% to 1.00%. As can be seen from the chart below, the hike can be viewed as a minuscule adjustment in comparison to past rate hiking cycles. But for a country that has been permanently in a low growth, low interest rate environment since The Great Recession, the psychological importance of a gradual rate hike is noteworthy. Per Fed Chair Janet Yellen “The simple message is – the economy is doing well. We have confidence in the robustness of the economy and its resilience to shocks.”
By historical standards, the new rate is still very low, and the projected increases are gradual. Wage growth, a dwindling supply of workers, and expectations of inflation growth are all factors with the gradual hike in rates. While many participants in this economy would dispute the improvement in wage growth and quality job opportunities, economists generally agree that a gradual increase in rates will help prevent an economy from “overheating” due to excessive business and consumer consumption.
Economic jargon aside, here’s how the rate increase can impact your everyday life, as well as some steps to take advantage:
Increases to Variable Rate Loans
Variable rate loans, mainly credit cards and HELOCs, will likely rise shortly following any hike in interest rates. Usually, within 3 months, you should see a corresponding bump in your rates on these types of loans.
What to do: Make sure you are aware of your interest rate % on your variable loans. Also, consider balance transfers and 0% introductory periods for your credit cards.
For fixed rate mortgages, the lag for the interest rate hikes is not as clear cut. The Federal Reserve can only control the short end of the yield curve, meaning it cannot use its “toolbox” to materially impact longer term interest rates. Mortgage rates are usually more correlated to inflation expectations and demand for long term U.S. treasuries, and will not necessarily rise in tandem with a Federal Reserve rate hike.
With that said, mortgage rates do tend to rise if there is a sense of optimism about the economy. We have seen rates tick up modestly within the past year, based on the long-term outlook of the economy per the Fed.
What to do: Mortgage rates are still near historic lows. Explore refinancing or locking in a rate on a new home sooner rather than later.
*Average 30 yr Mortgage rate since 1972, per the St. Louis Federal Reserve. Gray bars indicate recessions.
For the conservative investor, the idea of earning any interest in a savings account over the past few years has been wishful thinking. Unfortunately, a rise in rates does not automatically mean a rise in your savings rate. Banks typically use the hike in interest rates as an opportunity to raise their profit margins, and not necessarily pass on any benefit to the consumer. As a result, increases in savings rates tend to lag increases in rates to consumer financing.
What to do: Diligently shop for the best savings rate possible. Tying yourself to one bank will generally not result in the best possible rate. Some institutions utilize the rate hike as an opportunity to win business by sacrificing their margins for deposits. Make sure to check out online banks as well, as they can typically offer higher yields due to less overhead expenses.
*Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.