The Federal Reserve raised the federal funds rate at its meeting that concluded Wednesday. This is the final of three expected rate hikes by the central bank for 2017.
The Fed voted to raise the federal funds rate by a quarter of a percentage point, to a range of 1.25% to 1.5%. This marked the fifth 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 borrowers pay on car loans, credit cards, personal loans and mortgages.
The next step for consumers after a Fed rate hike 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 postelection 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?
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. Here are some 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.
- 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 this retirement calculator.
3. What does a rate hike mean for my savings account?
With the past few rate hikes, annual percentage yields on savings accounts have gone up, mainly at online banks. For the most part, rates at brick-and-mortar banks have remained low.
A bank will typically 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 played out at a number of online banks and is likely to continue in 2018.
Robert Frick, a corporate economist at Navy Federal Credit Union, expects savings rates to continue going up “as long as the Fed is on track to increase rates throughout 2018.”
“Next year promises to be a good one for savers,” Frick says, “as the Fed may raise rates three times, and possibly four times.”
That means it’s important to keep an eye on your bank’s APYs and compare them with those at other financial institutions. If you spot better savings rates elsewhere, you may want to consider opening an account with that bank. Chances are, this will be an online-only bank; not only do they offer higher rates, but they also tend to charge fewer fees than their brick-and-mortar counterparts.
4. Will rate hikes affect my CDs?
CD rates have also gone up in the last year, with online banks leading the way. Some of the best five-year CD rates are approaching 2.50%. 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 gradually over time.
Some banks offer bump-up CDs that allow customers to 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 June, 30-year fixed mortgage rates held steady until rising slightly in early July, according to the NerdWallet Mortgage Rate Index. Rates have wobbled a bit since, but basically they’re right where they were six months ago, just before and just after the Fed hike: a bit above 4%.
It’s obvious; mortgage rates don’t always follow the Fed. At least not in the short term.
Mortgage rates are much more prone to move on the prospect of future rate increases, rather than on a single day’s hike.
Depending on the type of mortgage you have, your plan of action 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 very 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 do respond directly to Fed short-term interest rate increases. You may want to consider converting your outstanding balance to a fixed-rate home equity loan or work 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, there are also your family’s needs, your job situation, the down payment and more to consider.
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, we’re building on very low ground. You know 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, your buying power can be affected by higher interest rates, but that can also be offset by the better wages and greater employment opportunities of an improving economy.
Updated Dec. 13, 2017.