Where to move your money when interest rates are likely to fall
As the Fed prepares to cut interest rates next week, the ripple effect will be felt in certificates of deposit and high-yield savings accounts, which currently offer rates above 5%.
They are unlikely to decline dramatically after the rate cut but will instead return to around 4% and stay above the rate of inflation for at least the next year. So these accounts are still your go-to emergency fund or cash set aside for short-term expenses.
That said, the Fed's expected move provides an opportunity for some money moves to take advantage of the downward trend in interest rates.
“Predictive cutting can pull the rug out from under high-yield savings rates,” Preston D. Cherry, founder and president of Contemporary Financial Planning, told Yahoo Finance “This may be the best time we've seen in years to swap cash in high-yield savings for long-term bonds to lock in a high yield to pay for lifestyle and retirement portfolios.”
Starting in 2022, when the Fed starts raising short-term interest rates, bank savings accounts have been a better place to keep your cash than bonds. That is changing.
Read more: What Fed Rate Decisions Mean for Bank Accounts, CDs, Loans and Credit Cards
Bond is back
For those nearing retirement looking to rebalance their retirement savings amid stock market volatility, this is a good time to move into bonds.
The best way to get a high total return from a bond or bond fund is to buy it when interest rates are high but on the way down.
If you buy the bond late in a period when rates are rising, you can lock in a higher coupon yield and enjoy the market value of your bond rising once rates begin to fall.
And if you're a Bond lover, you're up. After more than a decade of depressed bond yields, the double whammy of higher rates and falling inflation right now offers opportunities for investment returns. A lower interest rate will increase bond prices. (Interest rates and bond prices move in opposite directions.)
“Adding low-cost and high-yield long-term bonds at current levels can add value to your bond and overall investment portfolio in total return diversification, which hasn't happened in the rate-hike environment of the recent past,” Cherry said.
That's a narrow window, though, before rates start to fall and bond prices rise.
“If you have sufficient liquidity and don't need to tap money at a moment's notice, locking in bond yields over a multi-year period now can provide a more predictable income stream,” Greg McBride, chief financial analyst at Bankrate.com, told Yahoo Finance. .
“As the Fed begins to cut interest rates, short-term yields will fall faster than long-term yields in the months ahead, so do it for income rather than capital gains,” he said.
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Ladder provides a 'More predictable income stream'
One way savers can pivot as rates drop is to set up a bond or CD ladder with staggered maturities, rather than investing all of your funds in a single CD or bond with a set term length. This strategy “can provide a more predictable income stream while providing regular access to principal,” McBride says.
I keep my personal savings in several buckets, including, for example, six-month and one-year CDs, a money market account, a high-yield savings account, and a checking account.
The bulk of my retirement is stocks and bonds mainly through broad index funds. How you divide your savings and investments between stocks and bonds, mutual funds and money market funds, or high-yield savings accounts is a balance that only you know you're comfortable with based on your risk tolerance and how soon you'll need it. To tap funds.
Many retirees want a more conservative asset mix as they age so they don't face that uneasy feeling when the stock market wobbles. That's why near-retirees and retirees, especially those who haven't looked at their asset allocation in a while, should consider doing so.
Read more: CDs vs. Bonds: What's the Difference, and Which Is Right for Me?
How to invest in bonds now and for retirement
Most 401(k) investors hold bond mutual funds for the fixed-income portion of their portfolios, which are highly diversified and typically invested in medium-term (five-year) high-quality government and corporate bonds.
Most of us are not researching and investing in, for example, individual intermediate bonds. If you want to do it yourself and choose individual bonds and hold them until maturity, you certainly have plenty to choose from. Fidelity offers over 100,000 bonds, including US Treasuries, corporate and municipal bonds. Most have moderate to high quality credit ratings, but the sheer number of choices to me is mind boggling.
So I buy shares in a wide range of individual bonds to add a bond ballast to my retirement account through a bond mutual fund or ETF. For example, the Vanguard Total Bond Market ETF is a diversified, one-stop shop with more than 11,000 “investment grade” bonds — including government, corporate and international dollar-denominated bonds, as well as mortgage-backed and asset-backed securities. – All are of more than one year duration.
At the moment, more than 60% of Vanguard Fund's total assets are in government bonds and its year-to-date return is 4.94%.
As Vanguard notes, this fund “may be more suitable for medium- or long-term goals where you are looking for a reliable income stream and are suitable for diversifying stock risks in a portfolio.”
For short-term goals, it's wise to lock in attractive rates for money ahead of rate cuts that you might need sooner rather than later.
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Cash has 'zero risk' of losing its nominal value
Most of the financial advisers I spoke to suggested no knee-jerk action ahead of the Fed meeting. In other words, don't close your bank account.
“Inflation has certainly moderated, but in our view it is unlikely to decline significantly,” said Peter J. Klein, Chief Investment Officer and Founder of ALINE Wealth
If that happens, the Fed won't cut interest rates but will keep them steady going forward.
“Looking at the long history of inflationary pressures, one can see changes … that lead to sticky and persistent inflationary pressures. So, the idea that rates will come down significantly — and stay down — is not our base case,” Klein said.
That means it's a good bet you have those savings in your federally insured, accessible bank account earning above-inflation rates. This is especially true for those nearing or at retirement who plan to tap that money for living expenses and don't want the worry of fluctuating stock and bond prices.
“Cash is the only asset an investor can place in a portfolio that has no risk of losing nominal value,” Klein added.
Kerry Hannon is a senior columnist at Yahoo Finance. He is a career and retirement strategist and author of 14 books, including “In Control at 50+: How to Succeed in the New World of Work” and “Never too old to be rich.” Follow him in X @kerriehannon.
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