Inflation is rising, the stock market is volatile and now the Federal Reserve has raised interest rates – but investors, as always, should steer clear of any major changes, financial advisers said.
The Federal Reserve announced a half-point hike in the federal funds rate on Wednesday, in an effort to combat inflation. Though it may not seem like much, it was the largest increase since 2000. This rise may also not be the last, as the Federal Open Market Committee considers additional increases during the next few meetings, Federal Reserve Chairman Jerome Powell said during a press conference on Wednesday. “Inflation is much too high and we understand the hardship it is causing,” he said. “We are moving expeditiously to bring it down.”
This type of mayhem in the market can be stressful, advisers acknowledged, but retirement savers and investors should stay their course and stick to their investment plans.
“Long-term investors should not make any major changes to their balanced portfolios based on the direction of interest rates or stock market volatility, but stick to their financial plan,” said Jon Ulin, a certified financial planner and chief executive officer of Ulin & Co. Wealth Management. “Overall asset allocation should remain unchanged to avoid market timing.”
There are various ways an interest rate hike can affect retirement investments. For example, bond prices and interest rates react inversely to one another, so when one goes up, the other goes down. But this move may also put more pressure on stock prices as people buy shorter-term bonds with higher rates in an effort to de-risk their portfolios, Ulin said. Some people may want to review how much of their portfolios are in bonds with longer durations, and might want to talk to their financial adviser about next steps.
Now is a good time to focus on emergency savings, advisers said. Savings accounts and money market accounts have had very low interest rates in recent years. Rising interest rates will change those bank account returns for the better, but slowly and still not anywhere near what retirees would need to fight inflation (a CD with even a 2% rate won’t compare to the money you need if inflation is 8.5%, Ulin said).
But it’s a step in a helpful direction – having a lofty cash account allows retirees to avoid withdrawing from investment portfolios when the market is acting up, which keeps them from falling victim to the sequence of returns risk.
The sequence of return risk is the possibility of taking from an account when it’s dropping from a stock market downturn, which results in potentially lower returns in the future. “The Great Recession of 2008-2009 taught us many lessons,” said Thomas Scanlon, a certified financial planner at Raymond James Financial Services. “The sequence of returns really matters. If you are planning on retiring and taking distributions during a bear market, watch out. Your portfolio can decline significantly very quickly.”
Some investors looking to retire soon, or who have already retired, may want to take another look at annuities, which could benefit from interest rate hikes. Higher interest rates could mean better annuity payouts – for example, a 65-year-old male investing $100,000 in an annuity when Moody’s AAA corporate bond yield was 2% would have gotten about $450 per month in guaranteed income, but when that yield jumped 1.4 percentage points, that same investment garnered almost $500, according to ImmediateAnnuities.com. Of course, investors should also vet any annuity they consider purchasing to ensure it is appropriate for their goals and needs in retirement.
In the meantime, retirement savers should look at what other ways their personal finances may be impacted by this announcement. For example, if they have high credit card debt, now may be the time to focus on debt repayment as credit card APRs might rise in response to the Fed’s decision. The same is true when buying a home with a mortgage or a car with an auto loan. Take the time to review your personal finances – but don’t jump to make any drastic changes, experts warn.