Editor’s Note: This is an updated version of a story that originally ran on November 2, 2022.
In its last policymaking meeting of the year, the Federal Reserve on Wednesday raised its benchmark interest rate for the seventh time in a row, to a range of 4.25% to 4.5%. That is the highest it’s been in 15 years.
In a continued bid to tame decades-high inflation, the central bank may keep pushing rates higher next year, too, albeit at a more modest pace.
That, of course, means higher borrowing costs for consumers. But it also means your savings may actually start earning a little money after years of barely-there interest.
“Credit card rates are at a record high and still increasing. Auto loan rates are at an 11-year high. Home equity lines of credit are at a 15-year high. And online savings account and CD yields haven’t been this high since 2008,” said Greg McBride, chief financial analyst at Bankrate.
The good news: There are ways to situate your money so that you can benefit from rising rates and protect yourself from their costs.
Bank savings: Shop around
If you’ve been stashing cash at big banks that have been paying next to nothing in interest for savings accounts and certificates of deposit, don’t expect that to change much, McBride said.
Thanks to the big players’ paltry rates, the national average savings rate is still just 0.19%, up from 0.06% in January, according to Bankrate’s December 7 weekly survey of large institutions.
But all those Fed rates hikes are starting to have a much more significant impact at online banks and credit unions, McBride said. They’re offering far higher rates — with some topping 3.75% currently — and have been increasing them as benchmark rates go higher.
As for certificates of deposit, there’s been a noticeable increase in return. The average rate on a one-year CD is 1.20% as of November 22, up from 0.14% at the start of the year. But top-yielding one-year CDs now offer as much as 4.5%.
So shop around. If you make a switch to an online bank or credit union, however, be sure to only choose those that are federally insured.
Another high-yield savings option
But that rate will only be in effect for six months and only if you buy an I Bond by the end of April 2023, after which the rate is scheduled to adjust. If inflation falls, the rate on the I Bond will fall, too.
There are some limitations: You can only invest $10,000 a year. You can’t redeem it 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, and that’s not nothing. They also may be of particular benefit to people planning to retire in the next 5 to 10 years since they will serve as a safe annual investment they can tap if needed in their first few years of retirement.
Credit cards: Minimize the bite
When the overnight bank lending rate — also known as the fed funds rate — goes up, various lending rates that banks offer their customers tend to follow.
So you can expect to see a hike in your credit card rates within a few statements.
The average credit card rate hit a record high of 19.40% as of December 7, up from 16.3% at the start of the year, according to Bankrate. Some retail store credit cards are now carrying whopping rates of more than 30%.
“[Interest rate hikes] will most acutely impact those consumers who do not pay off their credit card balances in full through higher minimum monthly payments,” said Michele Raneri, vice president of US research and consulting at TransUnion.
Best advice: If you’re carrying balances on your credit cards — which typically have high variable interest rates — consider transferring them to a zero-rate balance transfer card that locks in a zero rate for between 12 and 21 months.
“That insulates you from [future] rate hikes, and it gives you a clear runway to pay off your debt once and for all,” McBride said. “Less debt and more savings will enable you to better weather rising interest rates, and is especially valuable if the economy sours.”
Just be sure to find out what, if any, fees you will have to pay (e.g., a balance transfer fee or annual fee), and what the penalties will be if you make a late payment or miss a payment 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. Average personal loan rates range from 10.3% to 12.5% for those with excellent credit scores, according to Bankrate. The best rate you can get would 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.
Home loans: Lock in fixed rates now
Mortgage rates have been rising over the past year, jumping more than three percentage points.
The 30-year fixed-rate mortgage averaged 6.33% in the week ending December 9, according to Freddie Mac. That is more than double where it stood a year ago.
“After cresting above 7%, mortgage rates have pulled back a bit but not enough to impact buyer affordability. The year-to-date rise in mortgage rates has still stripped would-be homebuyers of one-third of their buying power,” McBride said.
What’s more, mortgage rates may climb further.
So if you’re close to buying a home or refinancing one, lock in the lowest fixed rate available to you as soon as possible.
That said, “don’t jump into a large purchase that isn’t right for you just because interest rates might go up. 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 to do 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.
Your overall portfolio: Seek broad exposure and pricing power
Given that inflation may have peaked, market returns may be better next year, said Yung-Yu Ma, chief investment strategist at BMO Wealth Management. “The outlook for equity and fixed income returns has improved, and a balanced approach [in your portfolio] makes sense.”
That’s not to say markets won’t remain choppy in the near term. But, Ma noted, “A soft landing for the economy looks not only possible but likely.”
Any cash you have sitting on the sidelines might be put into the equity and fixed income markets in regular intervals over the next six to 12 months, he suggested.
Some stock plays
Ma remains bullish on value stocks, especially small cap ones, which have outperformed this year. “We expect that outperformance to persist going forward on a multi-year basis,” he said.
Regarding real estate, Ma noted, “the sharply higher interest and mortgage rates are challenging…and that headwind could persist for a few more quarters or even longer.”
Commodities, meanwhile, have come down in price. “But they still are a good hedge given the uncertainty in energy markets,” he said.
Broadly speaking, however, Ma suggests making sure your overall portfolio is diversified across equities. The idea is to hedge your bets, since some of those areas will come out ahead, but not all of them will.
That said, if you’re planning to invest in a specific stock, consider the company’s pricing power and how consistent the demand is likely to be for their product, said certified financial planner Doug Flynn, co-founder of Flynn Zito Capital Management.
For bonds, go short
To the extent you already own bonds, the prices on your bonds will fall in a rising rate environment. But if you’re in the market to buy bonds you can benefit from that trend, especially if you purchase short-term bonds, meaning one to three years. That’s because their prices have fallen more, relative to long-term bonds, and their yields have risen more. Ordinarily, short- and long-term bonds move in tandem.
“There’s a pretty good opportunity in short-term bonds, which are severely dislocated,” Flynn said.
“For those in higher-income tax brackets, a similar opportunity exists in tax-free municipal bonds.”
Muni prices have dropped significantly and, while they have started to improve, yields have risen overall and many states are in better financial shape than they were pre-pandemic, Flynn noted.
Ma also recommends short-term corporate bonds or short-term Agency or Treasury securities.
Other assets that may do well are so-called floating rate instruments from companies that need to raise cash, Flynn said. The floating rate is tied to a short-term benchmark rate, such as the fed funds rate, so it will go up whenever the Fed hikes rates.
But if you’re not a bond expert, you’d be better off investing in a fund that specializes in making the most of a rising rate environment through floating rate instruments and other bond income strategies. Flynn recommends looking for a strategic income or flexible income mutual fund or ETF, which will hold an array of different types of bonds.
“I don’t see a lot of these choices in 401(k)s,” he said. But you can always ask your 401(k) provider to include the option in your employer’s plan.