This may be a difficult question for many people to answer because interest rates have generally been on a downward trend for a long time. Rates hit a major peak back in 1981 of about 16%. The chart below shows the 10-year yield during the past 55 year period. ‘Loose’ US official interest rate policy has played a big role in keeping rates low in recent years. But with economic growth strong, consumers and businesses confident, and wages moving up, Federal Reserve policies are changing and becoming ‘tighter’. Yields on 10-Year Treasuries seem likely to move above 3% soon.
There have been shorter periods of time when rates have gone up by 1% or more. In fact, according to research by Lord Abbett, there have been eight of these ‘rising rates’ periods during the past 25 years. Financial assets respond differently when interest rates go up.
Equities typically do quite well and have climbed 16%, on average, during these periods. High Yield bonds also do well, and short-maturity bonds post positive returns. Medium- and long-term government bonds suffer the most. On average, 10-year Treasuries have lost 7%. And investment-grade bonds have fallen by about 1%. An actively-managed portfolio can help limit the negative effects of rising interest rates.
Beyond stocks and bonds, if interest rates continue to climb, you can expect to pay more to borrow money. 30-year fixed rate home loans are now approaching 4.5%. Rates on Home Equity Lines of Credit, personal loans, business loans, auto loans and credit cards are moving up, too.
The good news is that you can now expect to earn more in your low-risk accounts. It’s now common to find Treasury bills, Certificates of Deposit (CDs), and money market funds that have annual yields of 1.5% - 2.0%. And returns on your ‘rainy day’ funds and cash reserves are likely to move even higher in the near term. Author: Rob Kania
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