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The Federal Reserve’s most recent rate hike took the federal funds rate to a target range of 5.25-5.50. This is the highest interest rates have been in over 20 years, and it’s changing the way Americans save and spend money.
Changing market conditions provide an excellent opportunity to re-evaluate your finances. Rising interest rates pose challenges for borrowers but also provide new opportunities to save and try different investing strategies.
Financial moves to make while rates are high
Rising interest rates can have a negative impact on your debt since the cost of borrowing increases. However, rising interest rates can have a positive effect on your investments. Here are five ways you can take advantage of high interest rates:
1. High-yield savings accounts
If you don’t have a three to six-month emergency fund saved, now is a good time to build one up. You can reach your savings goals even faster by putting that money in a high-yield savings account.
A high-yield savings account provides easy access to your money but will allow you to earn more interest than a traditional savings account. Right now, you can find high-yield savings accounts with interest rates ranging between 4.5% and 5%.
Opening a certificate of deposit (CD) is another way to take advantage of high interest rates. Some CDs offer interest rates exceeding 5%, so you could earn even more than you would with a high-yield savings account.
However, when you open a CD, you commit to locking away your money for a specific term length. CD terms can range between three months and five years or more. If you take out the money early, you’ll likely get hit with an early withdrawal penalty, which could eliminate your earnings.
Diversifying your portfolio is a good way to protect yourself against inflation and rising interest rates. One way to do this is by investing in bonds, which are typically inversely correlated to interest rates. The bond market is sensitive to interest rate changes, and when interest rates increase, bond prices tend to decrease while still offering high yields.
When there’s concern about rising interest rates, investing in bonds can decrease volatility in your portfolio. If you’re concerned about rising interest rates, you may want to invest in bonds with short-term maturity dates.
4. Real estate
Buying an investment property is another way to take advantage of rising interest rates. Most people avoid investing in real estate when interest rates are high, but it can be a profitable approach for more experienced investors.
You can use rising interest rates as a negotiation tool to get a better deal on the property. Sellers know that fewer people can invest in real estate when interest rates are high. And if they wait too long and interest rates rise again, they may be unable to sell the property.
5. Pay off debt with variable interest rates
Certain types of debt, like student loans, credit cards and HELOCs, come with variable interest rates. That means your interest rates will rise with the federal funds rate. For example, the average credit card interest rate reached a record high of 20.69%. It’s a good idea to pay off any variable-rate debt before interest rates go any higher and you’re paying more.
Things to avoid while rates are high
Anyone looking for ways to save money and invest can benefit from rising interest rates. However, high interest rates can make the cost of borrowing more expensive. For example, 30-year mortgage rates are currently at 7.50%, compared to 2.84% in 2020.
So, for most borrowers, refinancing won’t make sense until interest rates start to fall. Most financial experts say refinancing is a good option if you can earn a new rate that’s 1% lower than your current rate.
Most importantly, you shouldn’t panic just because interest rates are rising. If you have savings and a diversified portfolio, you don’t need to do anything if markets suddenly go down. Focus on your long-term strategy over short-term losses.
Rising interest rates provide an excellent opportunity to save money and diversify your portfolio. Take advantage of things like high-yield savings accounts, CDs and bonds. For certain investors, real estate can also be a profitable investment. The exact steps you should take will vary depending on your situation.
Businesses and individuals should continue to take advantage of opportunities, even in an environment with high interest rates. Instead of avoiding borrowing money altogether, it’s important to compare the costs versus the investment returns.
Spending more on interest could make sense if it helps you reach other financial goals. For example, if a business owner has an opportunity to build a fruitful revenue stream and increase their income, they shouldn’t pass up on it simply because of a high interest rate. Just make sure you’re informed about the borrowing costs and how they would impact your business.