The Federal Reserve recently approved its first interest rate hike since 2018. And while the move will likely impact inflation and the economy as a whole, that doesn’t necessarily mean you should change your strategy. ‘investment.
The Fed has kept interest rates close to zero since the start of the COVID-19 pandemic. But as prices for everything from groceries to cars soar, the Federal Open Market Committee — the Fed’s monetary policy governing body — last week announced plans to raise its interest rate. benchmark by a quarter of a percentage point, bringing it within the range of 0.25% to 0.5%. The committee also said it expects continued incremental increases this year. Fed Chairman Jerome Powell said Monday that the Fed stands ready to raise rates even more aggressively, if deemed necessary, to rein in inflation.
Raising short-term interest rates is a tool used to fight inflation, because high interest rates limit the ability of businesses and consumers to borrow and spend money. These limited expenses can help control the rising prices you probably saw on your last grocery run, but they also tend to crush the prices of financial assets, like stocks and cryptocurrency. Anticipation of rising interest rates has worried investors for months about the outlook for financial markets.
But it’s not necessarily bad for your wallet to see interest rates rise, says Rob Williams, managing director of financial planning, retirement income and wealth management at Charles Schwab.
“The Federal Reserve is showing it has more confidence in the continued growth of the US economy,” Williams said.
Now is the time for investors to decide how they will or will not react in the short term. Is it time to adjust your investment portfolio?
Should rising interest rates change your investment strategy?
It can be tempting to play around with your investment portfolio when the news hits, but if you have a solid investment plan in place, stick to it.
“The real bottom line is that we don’t think people should make major changes to their portfolio if they’re invested for the long term and if they have a diversified portfolio,” Williams says.
A diversified portfolio usually consists of a mix of stocks, bonds and cash. For the average person with a time horizon of 10 years or more before they’ll need the money they’ve invested, Williams says an 80% allocation to stocks and equity funds (US and international ) is the most likely path to wealth.
However, this is only true as long as you can handle the risk and don’t panic when volatility hits. If you have less time before you need money — whether it’s for retirement or a big purchase like a house or car — you should probably invest more in assets that are a little more stable and less volatile, adds- he. Bonds are a good example.
Whether we’re dealing with rising interest rates, inflation, the Ukraine crisis, or other news, investing in the U.S. and global economy will most likely help you build wealth, Williams says. .
“It’s true if interest rates rise in the long term, it’s true if they fall,” he adds.
Should I change my stock portfolio?
Some stocks tend to do well when the Fed raises interest rates (like banking stocks) and others that don’t fare as well in that environment (like utility stocks), Williams says. . But keep in mind that while history may be any guide, there are no hard and fast rules about which assets do well during rising rate cycles — and which don’t.
In general, investors should think long-term and stay the course, but if there are places where you’ve been aggressive enough, you might want to consider pulling back a little, says Barry Gilbert, allocation strategist at assets at LPL Financial.
“That doesn’t mean you’ll suddenly become underweight, regardless of your equity allocation or anything like that,” he adds. “But if you’ve been more aggressive than usual, we might start the process all over again to bring it back to your base level.”
If you’ve avoided defensive stocks altogether — like consumer staples and healthcare companies — you might want to reconsider adding some to neutralize that position as well, Gilbert adds.
What about bonds?
Interest rates and bond prices tend to move in opposite directions. That means increases in interest rate targets could put pressure on bonds, especially those with longer maturities, says Eric Freedman, chief investment officer at US Bank Wealth Management.
Sometimes investors hold longer maturities simply because they have more attractive yields than shorter bonds. But when the Fed raises its interest rate targets, longer maturities are more sensitive to price risk than shorter duration bonds, Freedman told Money via email. Price fluctuations come into play with the bond funds and individual bonds you trade. If you plan to hold an individual bond to maturity, you’ll get back all of your principal.
“We suggest that investors allocate their interest rate exposure by duration and type of issuer (corporate vs. government vs. mortgage),” he adds.
Gilbert says he’s found that some investors are scared of bond prices right now, but fixed-income securities still play an important role in an investment portfolio. There could even be attractive opportunities in bonds, such as short- and medium-term corporate bonds, he adds.
Will we see more volatility in the markets?
It’s probably not easy to navigate the markets from here.
“We expect to see volatility in the market due to many factors that could be exacerbated right now,” Williams said, pointing to changing interest rates, inflation and the war in Ukraine as some of these factors.
And while it’s normal to want to react emotionally to the news, not making any sudden moves is probably your best decision. Investors do best when they stick to their plan and try not to react to headlines, Williams says.
“Sometimes long-term success is about discipline and small steps, not overreaction,” he adds.
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