Interest rates have been at historic lows for years…and they
just keep falling. In the US, the federal funds rate — the benchmark on which
other rates are based — is near 0% in 2021, and the Federal Reserve has
declared that it plans to keep it there until at least 2023.
Why are interest rates so low? The Fed adjusts interest
rates as part of its mandate to oversee the nation's money supply, the amount
of cash and easily obtainable funds circulating throughout the US. Reducing
interest rates is part of what's called an expansionary monetary policy, and
the Fed does it to combat economic slowdowns or recessions, which mean business
cutbacks and closures, and job losses.
The theory is that low interest rates stimulate the economy,
encouraging companies and consumers to borrow, spend, and expand. For example,
in the wake of the Great Recession, the Fed lowered the federal funds rate in
2008, and it stayed near zero until 2015.
The Fed is currently depressing interest rates to keep the
economy pumping despite the dragging effect of the ongoing COVID-19 pandemic.
But what do low interest rates mean for your personal
balance sheet — your investments, savings, and debts? The answer is mixed:
Favorable in some ways, unfavorable in others. But overall, you can take action
to take advantage of the situation.
Here's what you need to know to make the most of low
How do low interest rates impact your finances?
For bank account-holders, bad news: Falling interest rates
typically mean lower returns on their savings. Whether the money is stashed in
a savings account, a checking account, or a money market account, the interest
earned on it will decrease.
Borrowers, on the other hand, might get some relief. Folks
who are paying off debt whose interest fluctuates, such as a credit card
balance or a variable-rate loan, will likely see a decrease in their annual
percentage rate (APR). It won't affect their overall balance — the amount they
owe — but it will result in smaller interest charges.
Consumers who are in the market to finance a major purchase,
such as a car or home, will have access to loans with more favorable rates.
As for investors, it depends on what they're invested in.
Broadly speaking, though, low interest rates are good for people who have money
in the stock market. When interest rates are low, consumers have more money to
spend and banks are lending more. Companies generate more revenue and are able
to take out loans that can help them expand — which can cause their stock share
prices to rise.
How to benefit from low interest rates
There are several key moves you to make when interest rates
are low or falling — to take advantage of "money being cheaper," as
the financial pros like to say.
Low interest rates strategies for borrowers
Refinance your loans: If you have a mortgage or student
loans, consider refinancing— that is, paying off your old loan by taking out a
new one. This new one will have a lower interest rate, of course; ideally, it
should also be a fixed-rate loan, to lock in that lower rate. You'll need to
have good credit to qualify, but if you do, you stand to save a lot of money on
Consolidate your debt: If you're juggling multiple
credit card balances or personal loans, taking out a debt consolidation loan
can help you get all your liabilities under control. Debt consolidation loans
by combining them into one big debt — and one monthly payment. This might make
repayments more manageable, particularly if you can take advantage of a lower
Transfer credit card debt: Use low interest rates as
an opportunity to pay off your credit card debt faster by doing a balance
transfer to a credit card with a lower interest rate. You can consider a low
interest credit card with a favorable ongoing interest rate or a balance
transfer credit card. The latter typically offer a 0% introductory APR on
balance transfers for anywhere from 12 to 21 months, so you only want to go
with that option if you can pay off your balance fairly quickly — or at least,
within that time frame.
Low interest rates strategies for investors
Buy property: If you've been thinking about buying a
home, there's no better time to take out a home loan than when interest rates
are at historic lows. Even if you already have a house, you might want to
consider investing in a second home or other property if you can lock in a good
Use the interest savings: If you've got a mortgage or
a car loan whose interest rate has gotten extremely low, don't pay it off.
Instead, put the extra "income" — the difference in the interest
amount you're charged on your loan — into investments. You could boost the
amount you contribute to your 401(k) plan, for example.
Sell bonds: Bond prices tend to go up when interest
rates are low. If newly issued bonds are paying lower interest, older bonds
with higher yields become more desirable. So, if you don't need the income from
your bonds, seize the chance to sell them at a profit, or "above par"
as the investment pros say.
What should you invest in when interest rates are low?
Income-oriented investors will probably find that a low-rate
environment isn't ideal, particularly if they are seeking fixed-income or
fixed-interest investments. However, there are still some options when interest
rates tumble. Among the better ones:
High-yield savings accounts: When interest rates
plummet, a high-yield savings account will at least offer better returns than
what you'll get with a basic savings account at most traditional banks.
Certificates of deposit (CDs): If you can snag a
decent rate before interest rates hit rock bottom, locking it in with a CD will
help your savings maintain their value against inflation. Just keep in mind
that CDs tie up your funds for a certain amount of time — the higher the
interest rate, the longer the period, generally — and withdrawing your money
early usually results in a penalty.
Corporate bonds and municipal bonds: Bonds appeal to
fixed-income investors because of their low volatility, and they tend to offer
better yields than savings accounts and CDs. Corporate bonds — debt issued by
companies — pay more interest than US government bonds (called Treasuries),
admittedly at slightly higher risk, though they're still relatively safe.
Municipal bonds, which are issued by cities, counties, and states, also offer
higher yields as well as some tax advantages: The interest they pay isn't
subject to federal or state taxes.
Real estate investment trusts (REITs): When interest
rates are on the decline, REITs — publicly traded funds that own and operate
commercial properties — can prove a smart investment. Low interest rates
benefit real estate. If REITs borrow at lower interest rates, they can expand
construction, take on more projects, refinance their current loans — all of
which improves their performance, and the earnings they share with investors.
The financial takeaway
Low interest rates might not be great for savers, but
they're great for anyone paying off debt. They can also be beneficial if you're
looking to borrow, especially for major purchases like buying a house.
As for investors, it's a mixed bag. Interest rates near zero
might not be ideal for those dependent on investment income, especially if they
want low-risk vehicles that pay a steady return. But there are still plenty of
ways to invest in a low-rate environment that can help you at least maintain
your wealth. And some investments, such as real estate and bonds, might post
better returns, or be sold for a profit.
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