The Shift in Interest Rates: A 15-Year Journey
The contrast in interest rates between now and 15 years ago is staggering. In 2008, the federal funds rate dropped to virtually zero and remained there for approximately seven years. Your savings account likely quit paying much of anything in interest. CDs were paying practically nothing. It was really hard for savers who relied on the interest from those accounts to cover their expenses. For the spenders, of course, it was great; borrowers were getting 0% rates on car loans and 0% promotional rates on credit cards, as well as mortgages at 2% or 3%. Those factors were why the economy did really well for a long time. Going back to the 1980s, passbook savings accounts, which are no longer common, were paying 12%. That’s ludicrous to think of now. A gentleman I know tells a story about when he had an FHA loan on his first home. It was 18%, and he thought he got a good deal. If a bank were to offer a mortgage at 18% today, you’d say, “You’re crazy.”
Understanding the Current Interest Rate Landscape
Today is a different story. We’re going back to people thinking interest rates are incredibly high. Historically, though, they’re still really low — just not as low as they were 10 to 15 years ago. To put it in perspective, remember that interest rates are cyclical. Most importantly, ensure that you have sufficient flexibility in your retirement plan so that if interest rates rise or fall, you can adjust. It’s no longer enough to plan to live off the interest on our savings or CDs.
Interest Rates and Asset Allocation Strategies
Interest rates affect different asset classes in different ways, which in turn impact decisions on asset allocation strategies. You’ll need to consider the full range of options — stocks, bonds, real estate, tax strategies and more — when making adjustments to your retirement plan.
Devising an Inflation-Adjusted Plan
Interest rates and inflation are correlated, meaning they tend to move in tandem. Your retirement plan should include elements that are inflation-adjusted. Interest rates play a significant role in retirement planning, affecting decisions like buying a car, taking out a mortgage for a new home or planning a vacation. Your dollars need to be liquid and flexible enough to adjust accordingly. Don’t lock yourself in for an extended period. If you think interest rates are going to rise or fall, and you’re wrong, you just rolled the dice and locked yourself into something that could be detrimental to your retirement.
Example: The Consequences of Locking into a Low-Interest Rate
Let’s say that years ago, when rates were super low, you bought a 1% CD and locked it in for five years. When rates rose past 5%, you would have been on the sidelines, missing out on the growth. Looking for expert tips to grow and preserve your wealth? Sign up for Building Wealth, our free, twice-weekly newsletter.
The Bucketing Strategy: A Flexible Approach to Retirement Planning
If you’re trying to achieve sufficient growth in your retirement plan to outpace inflation, yet you’re not far from retirement and don’t want to be overly exposed to the stock market, the bucketing strategy can make sense. There are three buckets:
• First, you’ve got your “right now money.” How much money do you need for the next one to three years? That money should be invested conservatively. • Next, how much will you need in three to seven years? The aim with the second bucket of money should be moderate growth to keep it ahead of inflation. • The third bucket is for seven years out and beyond. This money can be invested aggressively. As I spend from my first bucket, my goal is to use it up by the end of the third year (and then replenish it from the second bucket). My three-to-five and three-to-seven-year buckets are going to grow. They’re (hopefully) designed to outpace inflation because I was able to take on a little more measured risk.
Challenging the Norm of Paying Off Debt
We’re all taught to pay off debt, but it’s not always the best financial choice. Sure, it’s great to retire with all debts paid, but if you have a mortgage with a 2%-3% rate, it might make sense for you to keep that mortgage. For example, let’s say your long-term investments are gaining 7% or higher annually, and your mortgage costs 3%. You’re getting wealthier every year by investing the money you could have used to pay off the loan. This can go the other way, however. If your mortgage is costing you 7% but your investments are returning only 3%, you may want to start paying off that mortgage as quickly as possible.
Rising Interest Rates: Challenges and Opportunities
Rising interest rates pose challenges but also present opportunities. Having a strategy and working with a retirement planner to adapt your strategy is key.
Conclusion
Dan Dunkin contributed to this article. Appearances on Kiplinger.com were obtained through a paid PR program. The columnist received assistance from a public relations firm in preparing this piece for submission to Kiplinger.com. Kiplinger was not compensated in any way. 210 Wealth Management Inc. d/b/a 210 Financial is an investment adviser registered under the Investment Advisers Act of 1940. Registration as an investment adviser does not imply a certain level of skill or training. The oral and written communications of an adviser provide you with information about which you determine to hire or retain an adviser. Form ADV Part 2A can be obtained by visiting: adviserinfo.sec.gov and searching for our firm name. ADV Form 2B is available upon request. Past performance is not indicative of future results.
