Financial Focus: What Does Interest Rate Hike Mean to You?
What Does Interest Rate Hike Mean to You?
As expected, the Federal Reserve raised short-term interest rates five consecutive times since June. These rate hikes may make the evening news-but what do they mean to you, as an investor?
Before you can answer this question, you need to be somewhat familiar with why the Federal Reserve raises rates in the first place. In a nutshell, the Fed increases rates in hopes of curbing economic growth just enough to combat inflation-but not enough to derail an economic expansion.
The Fed reiterated that it intends to raise rates at a gradual "measured" pace to a more neutral level. However, it also added that it would respond to changes that raised the threat of inflation. There continues to be some uncertainty regarding how much and how long the Fed will raise rates. However, those questions can only be answered by the future strength of the economy. Therefore, economic indicators will be looked at closely in order to get a better idea of what the Fed might do.
In short, there's no formulaic way to gauge the effect of the Fed's actions on your investments. However, you probably can't go wrong if you take these steps:
* Don't panic-Keep in mind that interest rates were very low before the Fed's decision. In fact, the Fed had actually lowered rates 13 times since 2001, resulting in a federal funds rate of 1 percent-the lowest since 1958. And the Fed's action only moved the funds rate to 1.25 percent-still extraordinarily low by any standards. In short, you don't need to consider drastic measures, because, as yet, things haven't changed that much.
* Diversify-Build and maintain a diversified portfolio of stocks, bonds, government securities, certificates of deposit and other investments. Diversification can help protect you against sharp price declines that may primarily affect just one asset class.
* Look for quality-Keep investing in high-quality stocks. Over the long term, high-quality companies-those with solid management, competitive products and strong track records of profitability and earnings-are likely to reward you, no matter where interest rates are headed.
* "Buy and hold "-If you've chosen high-quality stocks, you don't need to unload them solely because interest rates may be rising. You're much better off holding these stocks for the long term-until either your needs change or the companies themselves move in a different direction.
* Build a bond ladder-If you invest in bonds, you don't want to constantly adjust your holdings in response to changes in interest rates. Instead, build a "bond ladder''-a group of bonds of varying maturities. When rates are rising, you'll be able to reinvest the proceeds of short-term bonds that come due, and when rates are falling, you'll have your long-term bonds, with higher rates, working for you.
You can't predict the future course of interest rates. But by making these basic moves, you can go a long way toward achieving investment success-in all interest-rate environments.
This article was submitted by local financial representatives of Edward Jones.