Responding to Rising Rates

Taking such a steady-hand approach comes with the Federal Reserve last Wednesday signaling that the cost of borrowing money is likely to rise at some point this year, perhaps as soon as September. How high interest rates will climb after settling at rock-bottom zero in late 2008 is uncertain for now, with Fed Chairwoman Janet Yellen once again saying increases will be linked to how well the overall U.S. economy is performing.

A quarter of a percentage point is the probable initial hike, with Fed officials indicating the possibility that rates could be approaching 2 percent by the end of 2016.

“I think there are two things that the Feds are looking at,” said Tyler Townsend, a certified financial planner with Townsend Wealth Management in Columbus. “They’re going to be very data driven, meaning they’re not doing it based on a calendar timeline. They’re doing it based on the employment rate and the inflation rate, chiefly those two measures.”

Townsend believes Yellen and her Federal Reserve board of governors, along with the Federal Open Market Committee, want to see inflation increase a bit before pushing rates much higher. The last thing they want is any hint of deflation.

Explaining why that is important, Townsend said anyone who’s considering buying a car, television or washer and dryer might hold off if they think prices might drop in a month or two, which essentially is deflation. But if purchasers believe the cost of such goods will be climbing soon and staying there for any length of time — the raw form of inflation — they are more likely to buy now. The latter boosts the overall economy due to consumers spending money rather than holding onto it.

Even if rates were to reach 2 percent within a couple years, the Columbus, Ohio, financial planner said there are other things that should and will drive consumers’ purchasing decisions.

“If I’m looking at whether to buy a house now or a year from now, it probably has a lot more to do with how much I can afford, how much I can put down as a down payment,” Townsend said. “That difference of locking in an interest rate now versus 12 months from now is still a factor. But it’s a lower factor than some of these other things.”

On the home loan front, Bill Clayton, manager of the Primary Residential Mortgage branch in Columbus, said interest rates remain very affordable, although he does see them going up, but still remaining far, far off the 18 percent homeowners were paying back in the 1980s.

In the Columbus area, he said, home values have improved to the point that residents who have long been wanting to sell their dwellings — some since the Great Recession several years ago — are now able to do so.

At the same time, he said, prospective homebuyers are watching and reading the news and sensing that borrowed money won’t be as cheap in the future as today. That’s making customers he talks with “very eager” to lock in their loans as soon as possible.

“The valuations have improved to the point where people are now able to sell their homes and either break even or make a little bit of money,” Clayton said. “I think that’s contributing heavily to the market as a whole, because you’ve got considerable pent-up demand from those that have been wanting to move for various reasons, but were unable to given the value shock that we experienced over the last several years.”

The mortgage company manager said the housing market has solid momentum in 2015, and he doesn’t see a recession in the cards for the U.S. economy as the Federal Reserve tries to time its interest rate hikes.

That’s unlike some in the industry, including his mother, Michele Clayton, a longtime mortgage loan officer at the Primary Residential Mortgage branch in Phenix City.

“I think they’re going to probably claim recession sometime in August to avoid that (rate) increase,” she said of U.S. monetary officials. “They’re not going to increase rates. It would shock the fool out of me because the markets are slowing down a little bit, especially in this area.”

But perhaps a new home isn’t on your radar, while managing credit-card debt is. In that case, now is the time to keep an even closer eye on your accounts should interest rates start to climb in the coming months, said John Ganotis, founder of the online site, Credit Card Insider.

Doing so is especially important, he said, because many credit cards today have variable rates (versus fixed rates) that can change as the prime rate does. Some card agreements allow such rate changes every month.

“So it is possible that a consumer who got a card sometime in the past, that has one of these variable rates, new charges with the (adjusted) interest rate could be higher now,” he said. “In many agreements, it doesn’t apply to existing balances. But, basically, anybody who tends to carry a balance on a credit card should definitely be aware of that.”

That’s why the best piece of advice Ganotis has for consumers as interest rates increase — sooner or later — is to simply pay off the card’s balance each and every month if at all possible.

“Anybody who’s paying off a balance in full every month doesn’t have anything to worry about here,” he said. “But I’ve seen studies that say between $7,000 and $8,000 is being carried on credit cards by the average consumer. So people should definitely be keeping an eye out, maybe check (with the card issuer) the terms on their credit cards and see whether the rate is variable. … That’s a way you can stay on top of it.”

Then, of course, there’s that critical chore of taking what excess money someone has left over each month — after routine bills and expenses — to save and invest in a retirement nest egg. That’s where Townsend’s expertise comes in, especially with people looking to use financial tools such as stocks and bonds.

First, he said, when interest rates do eventually go up, that will put pressure on investment grade bonds. For example, 10-year bonds at a higher rate of, say, 4 percent will become more attractive than purchases of those bonds bought prior to a Fed rate hike and paying 2 percent.

“We’re using bond managers that have more flexibility with the bonds they choose,” he said. “They can select bonds that do a little bit better in a rising interest rate environment.”

When it comes to equities, or stocks, Townsend thinks those investments will do a “little bit better” than bonds and cash over the next several years.

“We have about a neutral weight to equities. The market environment is still healthy for stocks. The thing that gives you pause is that there’s been such a run-up and you just know it can’t last forever,” said the financial planner, who won’t even attempt to predict when a stock market correction might occur.

Some investors sense that such a downturn in the market might occur when the Fed does finally pull the trigger on a rate increase.

“I can tell you we’re not planning to make any trades based on that,” Townsend said. “We’re longer-term investors and that’s what we recommend to our clients, is to look for a multi-year horizon and don’t try to time these little events.”

That presumably means not going into panic mode at any point and doing something irrational and possibly costly in the long run.