CWG Insight Series: What Rising Interest Rates Mean For You

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You’ve likely seen news reports, articles, and posts about rising interest rates and it might leave you wondering, “How exactly does this affect me?” The Federal Reserve’s mission is to keep the US economy steadily growing on as smooth of an upward trajectory as possible. The economy and stock market have recovered from the March 2020 Covid Crash and have been “running hot”. The Fed is stepping in to raise interest rates in an effort to cool down the growth and lower inflation. Beyond the overall economy, rising interest rates have several impacts on your individual financial pictures. 

When the Fed raises the federal funds target rate, the goal is to increase the cost of credit throughout the economy. Higher interest rates make loans more expensive for both businesses and consumers, which often causes people to postpone projects that involve financing. It simultaneously encourages people to save money to earn higher interest payments. This reduces the supply of money in circulation, which tends to lower inflation and cool off the economy. The Fed is projecting its first rate increase in March, which would be the first in years, so we need to prepare for how that will impact all areas of your wealth.

Impact on Loans

A family shopping for a $1million home with 20% down payment will have an $800,000 mortgage. The average 30-year mortgage rate was recently around 3%. The monthly principal and interest payment on this mortgage would be $3,373. Let’s say the interest rate rises by 1% by the time you close on your home, the monthly payment at 4% would be $3,819 – an increase of $446 monthly.

In response to this increase, the family in this example might delay purchasing a home, or opt for one that requires a smaller mortgage, to minimize the size of their monthly payment. This will likely slow appreciation in the real estate market and cool off the current frenzy.

Besides mortgages, rising interest rates impact the cost of credit cards, personal loans, student loans, auto loans and business loans. Variable rate loans are particularly sensitive to Fed rate changes as the interest rates they charge are based on benchmarks that reference the fed funds rate. Payments on these loans will continue to rise as the Fed raises rates over the next few years.

Impact on Stocks

Higher interest rates can have a negative impact on the stock market. When Fed rate hikes make borrowing money more expensive, the cost of doing business rises for companies. Over time, higher costs and less business could mean lower revenues and earnings, potentially impacting their growth rate and stock values.

Fed rate increases impact market psychology, or how investors feel about market conditions. When the Fed announces a rate hike, traders might quickly sell off stocks and move into more defensive investments, without waiting for the long, complicated process of higher interest rates to work their way through the entire economy. This is what we experienced in January.

Impact on Bonds

Bonds are particularly sensitive to interest rate changes. When the Fed increases rates, the market prices of existing bonds decline as new bonds will soon be coming to market offering investors higher interest rate payments. Existing bonds will decline in price to make their comparatively lower interest rate payments more appealing to investors (selling at a discount).

While this is not good news for stocks and current bonds, those new bonds coming to market at higher rates are something income investors have been waiting a long time for.

Impact on Bank Accounts

While higher interest rates might be bad for borrowers, they’re great for anyone with a savings account. When the Fed raises rates, banks react by increasing the amount interest they pay you on your checking and savings accounts. 

Typically, online savings accounts react more rapidly to Fed rate changes because there is more competition among online banks for deposits. This is exactly why we have your cash safety net funds in online banks like American Express, Marcus, Synchrony Bank, among a few others. As the Fed increases rates, you should see your safety nets accumulating more interest monthly.

Nick Kolbenschlag - Chief Executive Officer & Co-Founder