Interest rates: What to do with your money now that the Fed raised rates for the ninth time
Editor’s Note: This is an updated version of a story that originally ran on February 1, 2023.
After two weeks of banking turmoil, the Federal Reserve on Wednesday continued its bid to beat down inflation by raising its key interest rate again, the ninth such hike over the past year.
That increase — which comes after US regulators undertook a number of confidence-boosting efforts to backstop banks and ensure they have enough cash to stay afloat — will have an effect on consumers’ savings, loans, credit cards and investments.
“Returns on savings accounts and CDs are the best in 15 years,” said Greg McBride, chief financial analyst for Bankrate.com. “But the average credit card rate is now at a record high above 20%, auto loan rates are at a 12-year high and mortgage rates are still north of 6.5%. It is as important as ever for savers and borrowers to shop around to get the benefit, or minimize the impact, of rising interest rates.”
So here are some ways to position your money to get the most out of higher rates, while also protecting yourself from their costs.
Higher rates mean your most liquid savings — those set aside for emergency expenses or short-term goals like a vacation fund or even a down payment that you’ll need in the next 12 months — can finally earn some money for you after years of earning practically nothing. Unless, that is, you’re still keeping your money at the biggest banks. They are offering the lowest rates on savings.
But online high-yield savings accounts now offer rates as high as 5%, well above the 0.23% national savings account average, according to Bankrate.
“You’re leaving a lot of money on the table if you don’t go to an online bank,” McBride said.
Just make sure to choose one that is FDIC insured, so you can rest easy knowing your deposits up to $250,000 will be protected should the bank run into trouble.
Among the highest-yielding certificates of deposit, there are some federally insured one-year CDs with rates as high as 5.15%, well above the current 1.62% national average.
So, shop around.
Given today’s still-high rates of inflation, Series I savings bonds may be attractive because they’re designed to preserve the buying power of your money. You can still get the current 6.89% rate on the I Bond if you purchase it before the end of April.
That rate will stay in effect for six months if you complete your purchase before it resets on May 1. If inflation falls, the rate on the I Bond will fall, too.
There are some limitations: You can only invest a maximum of $10,000 a year. You can’t redeem your bond in the first year. And if you cash out between years two and five, you will forfeit the previous three months of interest.
“In other words, I Bonds are not a replacement for your savings account,” McBride said.
Nevertheless, they preserve the buying power of your $10,000 if you don’t need to touch it for at least five years. They also may be of particular benefit to people planning to retire in the next five to 10 years since they serve as a safe annual investment that can be tapped if needed in the first few years of retirement.
If you’re carrying credit card debt, expect to see a hike in the rate you pay within a few statements. When the fed funds rate goes up, various lending rates that banks charge their customers tend to follow.
Currently, the average credit card rate remains at a record high of 20.04% as of March 15, well above the 16.3% average at the start of 2022, according to Bankrate.
Your best bet is to try to find a good balance-transfer card with an initial 0% rate and make a plan to pay off what you owe in the coming months before a high rate kicks in.
“Credit card rates are at record highs and still rising. Turbocharge your debt repayment efforts with a 0% balance transfer offer, some lasting as long as 21 months. This insulates you from further rate hikes and gives you a runway to get the debt paid off once and for all,” McBride said.
But first find out what, if any, fees you will have to pay (such as a balance-transfer fee or annual fee), and what the penalties will be for late or missed payments during the zero-rate period. The best strategy is always to pay off as much of your existing balance as possible — on time every month — before the zero-rate period ends. Otherwise, any remaining balance will be subject to a new interest rate that could be higher than you had before, if rates continue to rise.
If you don’t transfer to a zero-rate balance card, another option might be to get a relatively low fixed-rate personal loan.
The average personal loan rate was 10.71% as of March 8, according to Bankrate. But the best rate you can get will depend on your income, credit score and debt-to-income ratio. Bankrate’s advice: To get the best deal, ask a few lenders for quotes before filling out a loan application.
The 30-year fixed rate mortgage has run north of 6% all year.
For the week ending March 16, it averaged 6.60%, down from 6.73% the week before. A year ago, the 30-year fixed-rate was 4.16%.
Mortgage rates aren’t tied directly to Fed rate hikes but rather to movements in the 10-year Treasury yield, the benchmark rate for most consumer loans.
As to where mortgage rates go next, look to inflation. If inflation keeps dropping, then mortgage rates are expected to drift lower too. But don’t expect them to go back to 3%.
Whether they rise or fall from here, securing a home loan may become tougher since banks, wanting to bolster their defenses against potential adverse events like a run on deposits, may want to take fewer risks and preserve more cash. One way to do that: make borrowing requirements more stringent.
If you are close to buying a home or refinancing one, it may be a good idea to lock in the lowest fixed rate available to you.
That said, “rushing into the purchase of a big-ticket item like a house or car that doesn’t fit in your budget is a recipe for trouble, regardless of what interest rates do in the future,” said Texas-based certified financial planner Lacy Rogers.
If you’re already a homeowner with a variable-rate home equity line of credit, and you used part of it for a home improvement project, McBride recommends asking your lender if it’s possible to fix the rate on your outstanding balance, effectively creating a fixed-rate home equity loan.
If that’s not possible, consider paying off that balance by taking out a HELOC with another lender at a lower promotional rate, McBride suggested.
The variable rate on a home equity line of credit or a fixed rate on a home equity loan will rise because their formulas are directly tied to the Fed’s rates. The average home equity loan was running at 8% as of March 15, well above the 6.19% in mid-March of last year. HELOC rates, meanwhile, are currently averaging 7.76%, much higher than the 3.96% average a year ago, according to Bankrate.
There is no predicting yet how long interest rates will stay high or whether more tumult is in store for markets as a result of recent bank failures.
“Rising rates are part of the economic weather,” said Rob Williams, managing director of financial planning at Charles Schwab.
The same is true for periods of market downturns and inflation.
But history has shown markets continue to grow over time.
So, Williams said, “Focus on what you can control. If you’re a long-term investor, you can weather those storms.”
If you have a long-term investment plan in place, stick with it, he recommends. If you don’t have one, now is a good time to set one up. That includes saving regularly in your 401(k) and investing in a diversified portfolio with exposure to US and foreign equities plus bonds.
For anyone within five to 10 years of a big goal — such as sending children to college or retiring — Williams recommends taking advantage of the fact that “fixed income investments [e.g., bonds and CDs] are more attractive now than they’ve been for a decade or more.” His suggestion: Gradually increase your bond allocation. That reduces the overall risk of your portfolio and provides greater stability for the income that your portfolio can throw off.
Indeed, Tony Roth, chief investment officer of Wilmington Trust, suggests that, given uncertainties ahead, any investor might consider reducing their portfolio risk a bit and take advantage of higher returns on bonds by reallocating 2% to 3% out of stocks and into high-quality corporate bonds with durations of no more than three to five years.
If you are in a top tax bracket and are investing through a taxable account, you might consider tax-free municipal bonds, or a low-cost, very short-term muni money market fund, Roth suggested.
“Even if bonds go down a bit, you will make more in interest,” he said.