The Federal Reserve left the federal funds rate unchanged at its meeting Wednesday. The central bank kept the door open to raising rates in the near future — something it has done twice already this year — provided economic conditions remain satisfactory.
In June, the Fed voted to raise the federal funds rate by a quarter of a percentage point, to a range of 1% to 1.25%. It was the fourth such increase since December 2015, after a nearly 10-year stretch during which the rate did not rise.
The federal funds rate — the rate banks charge one another for overnight loans — helps determine short-term market rates, as well as the interest rates that borrowers pay on car loans, credit cards, personal loans and mortgages.
Understanding the impact of the Fed
When the Fed keeps the federal funds rate steady, as it did Wednesday, it generally means consumers can stay the course with their finances. When the Fed changes the federal funds rate, the next step for consumers depends on which side of the saving-borrowing divide they stand.
For guidance, NerdWallet’s in-house experts respond below to the most pressing questions from savers, homeowners, home shoppers, credit card holders and investors.
1. What impact will rate hikes have on my retirement savings?
Predicting the effect that the federal funds rate increase will have on your retirement savings depends a lot on your near-term plans for the money and what’s in your portfolio. Large U.S.-based companies? Foreign stocks? Dividend payers? Indexed investments? Individual stocks concentrated in particular sectors?
When a rate increase is expected, the effect on the overall market usually is already baked into stock prices, at least partially. It’s reasonable to expect short-term stock market anxiety in response to the news, because Wall Street is notoriously easy to spook. Intermittent volatility in exchange for higher potential returns on your long-term savings is par for the course. The stock market’s post-election dive and quick turnaround race to all-time highs are just the most recent example of this phenomenon.
2. Should I adjust my investing strategy for rate hikes?
In NerdWallet’s end-of-year financial savings survey, 17% of Americans said that stock market volatility was one of their top sources of financial anxiety. Our advice for how to handle potential market turbulence remains the same as it always has been for long-term investors: Take a deep breath, don’t make any sudden moves, and concentrate on the things you can control. (Fiddling around with a Roth IRA savings calculator is a more worthwhile distraction than fiddling with the investments in your account.)
More rate hikes could be coming soon. The Fed has three more meetings scheduled in 2017. But here are some other suggestions to keep your hands busy until business as usual resumes:
- Revisit your original investment plan: Do higher interest rates change your long-term expectations for any of the investments in your portfolio? In the near term, they might, especially if you’re invested in stocks, exchange-traded funds or mutual funds in industries that are in expansion mode — where the higher borrowing costs can hinder the ability to invest in future growth — or heavily reliant on consumers’ ability to finance purchases (think homes and cars). But what about longer term? If your original investment thesis still stands, then stand by your choices.
- Check your asset allocation: A well-balanced portfolio that contains a diversified mix of assets can help investors sleep well through even the most raucous Federal Reserve Board meeting. Find a quiet spot to review your retirement portfolio’s allocation, but don’t be too quick to move things around in response to any short-term blips. Here’s more on what it means to diversify and guidance on four ways to rebalance your portfolio.
- Make the most of the money you need in the next three to 10 years: Don’t forget to consider your short-term savings as part of your overall portfolio. Any money earmarked for upcoming expenses, such as the early years of retirement or a down payment on a home, should be invested in more predictable and less volatile investments than the stock market.
- Take advantage of market volatility by investing whenever the market takes a hit: Running toward the wreckage with your money takes nerves of steel. But the rewards of following through on the first part of the “buy low, sell high” rule of thumb are often well worth it. You don’t have to dive into the discount bin with all of your money at once. Adding to your positions over time, an approach known as dollar-cost averaging, is one way to reduce your risk. See how even small savings increases can affect your future way of life with a retirement calculator.
3. What does a rate hike mean for my savings account?
Since the recent rate hikes, annual percentage yields on savings accounts have inched up, mainly at online banks. For the most part, rates at brick-and-mortar banks have remained low.
Banks consider many factors when setting savings rates, and a Fed rate move doesn’t play a huge role. Still, a bank typically will look at how its competitors respond to a Fed increase. If others start raising their rates, that institution will likely feel compelled to stay competitive. That trend has started to play out at some online banks, and it might make its way to traditional institutions.
“I expect to see some institutions begin nudging up rates,” including brick-and-mortar banks, when it comes to “short-term, interest-sensitive products,” says Robert Frick, a corporate economist at Navy Federal Credit Union. Frick expects to see rate movements in certificates of deposit, “specifically those with terms shorter than six months.”
No matter where you do business, monitor your banks’ APYs and compare them with those at other financial institutions. If you spot better savings rates elsewhere, consider opening an account with that bank. Chances are good that this will be an online-only bank; not only do they offer higher rates, they tend to charge fewer fees than their brick-and-mortar counterparts.
4. Will rate hikes affect my CDs?
CD rates have seen small increases, with online banks leading the way. Rates at most traditional banks remain low.
Standard CDs are typically affected in much the same way that savings accounts are: Rates may go up over time but not by a lot.
Some banks, however, offer bump-up CDs that let customers request a rate increase if the bank’s rates rise. In most cases, customers can exercise this option only once during a CD’s term. These types of CDs usually have lower interest rates than fixed-rate certificates, and many have higher deposit requirements. Still, if you have one, keep track of your bank’s rates. If they go up, ask your financial institution to adjust your CD accordingly.
5. Will the interest rates on my credit cards go up?
Expect your credit card rates to rise each time the Fed raises the federal funds rate. Interest rates on credit cards typically rise or fall with the prime rate, which is directly affected by the Fed’s action. When the Fed has boosted rates by 0.25 percentage point in recent years, most major issuers have raised the annual percentage rates on their cards by an equal amount within a month or so.
If your rate is going up, you might not even hear about it from your credit card company. Although card issuers usually have to give you 45 days notice of an increase in your APR, there’s an exception for increases triggered by a change in the prime rate. So keep an eye on the APRs listed on your credit card statements.
A higher APR on your credit card means it will cost more to carry debt, although that higher cost will depend on your balance. Your APR is a factor in how your minimum payment is calculated, so that could go up as well. Regardless of the effect in dollar terms, reducing your credit card debt is always a wise move.
6. How will a rate hike affect my mortgage?
After the Fed rate hike in March, 30-year fixed mortgage rates began slowly sinking, ultimately reaching lows unseen since November 2016, according to the NerdWallet Mortgage Rate Index.
It’s obvious; mortgage rates don’t always follow the Fed. At least not in the short term.
Analysts look for clues to future Fed actions in Chair Janet Yellen’s news conferences after each meeting. Mortgage rates are much more prone to move on the prospect of future rate increases than on a single day’s hike.
Depending on the type of mortgage you have, your plan of action following a rate hike can vary:
- If you’re already a homeowner with a fixed-rate mortgage, you’re all good. Your rate is set.
- If you have an adjustable-rate mortgage that’s past the teaser rate period, you’ve been fortunate that rates have remained so tame. Keep an eye on mortgage rates and consider moving to a fixed-rate loan, especially if you intend to stay in your home for the long term.
- Home equity lines of credit respond directly to Fed short-term interest rate increases. After three rate hikes in the last eight months, you’re probably noticing a substantially higher interest charge. You may want to consider converting your outstanding balance to a fixed-rate home equity loan or try to pay down the principal balance on your HELOC before rates move much higher.
7. Should I worry if I’m shopping for a home?
Buying a home depends on so many different factors — how much house you can afford, mortgage rates and home prices in your area. Of course, you need to consider your family’s needs, your job situation, the down payment and the rest.
It’s hard to time all of that perfectly. But here’s the thing: If you’re all set to buy, don’t let moderately higher mortgage rates worry you. Proceed according to your plan. While the long-term outlook seems to indicate steadily rising interest rates, you’re building on low ground. That whole “historically low mortgage rates” thing you’ve heard for the past few years? Yeah, we’re still there.
It will take a long climb before mortgage rates are back to their 44-year historical average of 8%. In the meantime, you’ll be in the money with a 4% or 5% home loan. Even a 6% mortgage is a significant discount from the average.
Yes, higher interest rates can affect your buying power, but that can be offset by the better wages and greater employment opportunities of an improving economy.
Dayana Yochim, Tony Armstrong, Hal Bundrick and Anna-Louise Jackson are staff writers at NerdWallet, a personal finance website. Email: email@example.com or firstname.lastname@example.org or email@example.com or firstname.lastname@example.org. Twitter: @DayanaYochim or @tonystrongarm or @halmbundrick or @aljax7.
Updated July 26, 2017.