Interest Rate Increase

By: EconomyWatch Content   Date: 4 November 2009

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An interest rate increase can affect a person’s finances in different ways. For instance, people with credit card debt, mortgage loans and car loans can feel the brunt of rise in interest rates. An interest rate hike leads to increase in borrowing costs, which affects both individuals and businesses who borrow frequently. At the same time, an interest rate increase can also benefit people. For example, people who invest in fixed income securities, CDs and savings bonds can earn more interest income from their investments during the increased interest rate period.

How to Optimize Interest Rate Increase

Investors can deal with interest rate increase to reap enhanced benefits from their investments. Here are some steps to optimize a situation of interest rate increase:

Short-term Investments: Most people invest in vehicles that offer the highest yield. If a person invests in a five year Certificate of Deposit (CD), he may benefit in the short term. However, when the interest rates suddenly increase, the interest income from a five year CD will be lower than those from other investment vehicles. Hence, if the interest rate is expected to increase anytime soon, consider investing in short-term instruments.

Liquidity: In a rising interest rate environment, it is advisable to invest in highly liquid accounts. Savings, checking or money market accounts may not yield as high as CDs, but their high liquidity enables investors to switch money to instruments offering higher interest rates.

Adjustable-rate CDs: One can opt for adjustable rate CDs or ‘bump up’ CDs when interest rates are expected to rise. These bump-up CDs allow investors to switch to a higher interest rate account without penalties. Before investing in CDs, always check for the option of bump-up CDs with the issuer.

Building a CD ladder: Building a CD ladder is another way to prepare for interest rate increase. CD laddering involves dividing savings into small parts and investing in a variety of certificates of deposit with staggered maturation dates.

Following these tips can help investors benefit from, rather than fretting about, an interest rate increase scenario.


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