The Fed is setting the stage for a rate hike. Here’s what that means for you

The Federal Reserve laid the groundwork for an interest rate hike on Wednesday.

After its two-day meeting, the central bank said it would aggressively reverse last year’s bond purchases after various inflation reports hit their highest levels in decades.

Although interest rates will remain close to zero for now, Fed officials have set the stage for the first of multiple rate hikes starting in March as they seek to contain soaring inflation.

“The Fed got the memo,” said Greg McBride, chief financial analyst at Bankrate.com.

How the Federal Funds Rate Affects You

The federal funds rate, which is set by the central bank, is the interest rate at which banks borrow and lend to each other overnight. Although this is not the rate consumers pay, Fed decisions still affect the borrowing and savings rates they see every day.

Now that the central bank’s easy money policies are about to end, consumers will have to pay more to borrow and will still barely enjoy better rates on their deposits.

Moreover, the first rate hike will only be the beginning, McBride noted. “The last time the Fed raised rates, it did so nine times in three years.”

“The cumulative effect of rate hikes is what’s really going to impact the economy and household budgets,” he added.

The cost of borrowing will increase

As the Fed cancels its bond purchases, long-term fixed rates mortgage rates are slightly higher as they are influenced by the economy and inflation.

The average 30-year fixed-rate home loan has already increased at 3.75%, and is expected to climb to 4% by the end of 2022, according to Jacob Channel, principal economic analyst at LendingTree.

The same $300,000 30-year fixed rate mortgage would cost you about $1,389 per month at 3.75%, while it would cost you $1,432 at 4%. That’s a difference of $43 per month, or $516 per year, and $15,480 over the life of the loan, according to LendingTree.

If rates increase to 4.5%, you’ll pay $131 more per month or $1,572 more annually, and $47,160 over the life of the loan.

As rates rise, there are fewer opportunities to refinance, although borrowers with good credit can still find annual percentage rates around 3.25% for a fixed rate refinance loan on 30 years and 2.62% for a fixed rate loan over 15 years. rate loan, according to Lending Tree.

“Waiting has cost you a lot of time,” said Bankrate’s McBride. “If you pay a rate higher than 4%, you can still benefit from it but it will be more modest.”

“Buyers who are worried about the impact of rising rates on them should work to improve their credit score and save as much money as possible before applying for a loan,” Channel said.

“The more money they can spend on a down payment and the higher their credit score, the better rate they are likely to be offered.”

And “even though they are rising, today’s mortgage rates are still relatively low from a historical perspective,” he added.

Short-term borrowing rates, especially on credit cards, will rise even faster.

Since most credit cards have a variable rate, there is a direct link to the Fed’s benchmark, so expect your APR to increase when the Fed acts. Credit card rates are currently hovering around 16.3%, down from a high of 17.85%, according to Bankrate.

“A small increase or two spread over several months isn’t going to shake up most people’s financial worlds,” said Matt Schulz, chief credit analyst at LendingTree.

If you owe $5,000 on a credit card with a 19% APR and put $250 a month on the balance, it will take 25 months to pay it off and cost you $1,060 in interest charges. If the APR hits 20%, you’ll pay an additional $73 in interest.

However, “several small rate hikes are starting to pile up,” Schulz said, and “for people in deep debt, any interest increases are not welcome. That’s why people need to act today.” .

Borrowers could call their card issuer and ask for a lower rate, switch to an interest-free balance transfer credit card, or consolidate and pay off high-interest credit cards with a home equity loan or a personal loan, Schulz advised.

Cards offering 15, 18, and even 21 months interest-free on transferred balances are “one of the best weapons in the battle against card debt,” Schulz said.

Savers are in a hurry

When the Fed raises its benchmark rate, deposit rates will be much slower to respond, and even then only gradually.

While the Fed has no direct influence on deposit rates; they tend to be correlated with changes in the target federal funds rate. As a result, savings account rates at some of the larger retail banks hovered near the bedrock, currently just 0.06%, on average.

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“A lot of banks aren’t going to pass higher rates on to savers, so where you put your money is going to be really important,” McBride said.

Thanks in part to reduced overhead, the average online savings account rate is at least three times the average rate at a traditional bank.

If you have $10,000 in a regular savings account, earning 0.06%, you will only earn $6 in interest per year. In an average online savings account paying 0.46%, you could earn $46, while a five-year CD could earn nearly double that, according to DepositAccounts.com.

However, since the rate of inflation is now higher than all of these rates, any money saved loses purchasing power over time.

Look for other options with better rates, advised Yiming Ma, assistant professor of finance at Columbia University Business School, such as money market funds, bond mutual funds or bond ETFs.

There are alternatives that will require taking on more risk but come with increasing returns, she said – as long as you are somewhat sheltered from recent market volatility.

“Set aside enough money to cover day-to-day expenses, to be protected against ups and downs,” Ma said. “The rest can be invested in something that can get a good long-term return. “

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