As if the excitement of the impending Christmas and holiday season wasn’t enough, two of the most anticipated events of 2015 occurred last week. The long-awaited seventh installment of the Star Wars franchise, The Force Awakens, was released in theaters on December 17th. As expected, the film shattered all opening weekend box office records. For the briefest of moments millions of Americans (including this author) were able to relive a portion of their childhood as some of their favorite movie heroes once again took us on a journey from a long time ago in a galaxy far, far away.
But I suspect most readers of this article are more interested in the event that occurred one day earlier. On Wednesday the 16th, the Federal Reserve raised the target funds rate by 0.25%. The move marks the first increase in rates in seven years, since rates went to zero on December 16th, 2008. The increase ends months of speculation about when the Federal Reserve would finally raise rates amid concerns about the nation’s economic health.
While the move is a very small step in restoring rates to a normal interest rate environment, the Federal Reserve seems poised to make ongoing hikes a slow and gradual process. This interest rate increase is a positive first step in the long-term recovery of our national economy. But you may be wondering what this increase in rates means for you individually. Let’s explore the impact the rate increase will have for different groups, remembering that future rate increases will be small and incremental and it will take months and perhaps years for this to play out entirely.
The rate increase is a positive development for retirees and those who are heavily invested in fixed income investments like bonds, money markets and certificates of deposit (CDs). But it is important to remember that we are still a long way off from returning to an environment where retirees can expect fixed income investments to contribute significantly to investment returns. For the time being, fixed income investors should continue to keep bond portfolio maturities short, as increases in bond and CD yields will lag rate increases by the Fed.
For borrowers, the impact of the overnight lending rate increase will result in higher borrowing costs. While it won’t occur immediately, borrowing costs typically increase faster than savings rates when interest rates increase. Homeowners with variable or adjustable rate mortgages will want to lock-in fixed-rate mortgages sooner as opposed to later, and borrowers planning to finance large purchases such as an automobile may want to do so before rates hike up again.
As a result of the interest rate increase, the already strong US dollar could get stronger against other currencies. For our manufacturing export industries, a strengthening dollar will not help the affordability of our goods in foreign countries. For US travelers abroad however, US dollars will go much further in foreign countries as the dollar strengthens. If you have been planning travels overseas, it might be a good time to firm up those vacation plans to take advantage of the dollar’s purchasing strength.
While equity and fixed income markets have already built the anticipated interest rate hikes into their current pricing, other events have introduced volatility into the markets. Currently we are seeing concerns about falling oil prices and a weak energy sector, a flight from high yield bonds, China’s slowing economy, and concerns about other global economies (including the US) weighing on our domestic equity market. Investors must remember their long-term goals during periods of stock market volatility like we are currently experiencing. The recent rate increase is a step in the right direction, but there is still a long way to go for interest rates to go and we are likely to experience heightened volatility for the foreseeable future. Resist the temptation to react to sudden market gyrations.
It is critically important to make the correct investment decisions during times when we are experiencing changes in interest rates. Please feel free to call our office at 419-878-3934 if you have any questions about the correct course of action for your personal financial situation.
Bollin Wealth Management LLC would like to wish you the Merriest of Christmases and a prosperous New Year in 2016. Our office will be closed on December 24th and 25th, and December 31st and January 1st to celebrate the holidays.