NEW YORK – With interest rates starting to creep higher, consumers should take steps now to maximize what they earn on their savings and minimize what they pay on their debts.
Savers can at last look forward to returns on their accounts above the decades-low 1 percent and 1.5 percent they’ve gotten in recent years. Those with high credit card balances or outstanding home equity lines of credit will find them more costly.
Greg McBride, a financial analyst with Bankrate.com in North Palm Beach, Fla., said the Federal Reserve is expected to slowly move interest rates higher starting this summer, “with the heaviest lifting in 2005.” That means consumers have time to prepare, he said.
On the savings side, he noted that rates already have begun rising in anticipation of Fed moves. The rate on a one-year certificate of deposit currently averages 1.8 percent, up from 1.1 percent at the end of March.
Savers who want to be in a position to take advantage of still-higher rates should be investing now in shorter maturity CDs, such as three-month and six-month CDs, McBride said.
“Ideally you’ll want maturities of one year or less so you have the flexibility to reinvest at higher returns over the next year or so,” he said.
One strategy is to “ladder” CDs – investing in accounts with maturities of three months, six months, nine months and a year – so you can reinvest at three month intervals at increasingly higher rates, McBride added.
McBride also likes EE Savings Bonds as a way to capture rising interest rate returns. The rate on these bonds is based on the five-year Treasury note and is adjusted every six months, so Savings Bond investors should see their returns increase as rates rise.
When it comes to debt, most consumers are likely to have the biggest problem with rising credit card rates. The average rate on credit card balances is currently about 13 percent.
Laila Batz-Krause, executive vice president at PNC Bank in Pittsburgh, said it might be a good idea for consumers to shop now for lower-rate cards or to pay down credit card debt with a home equity loan.
“But I wouldn’t want to see anyone pay credit card debt with a home equity loan unless they intend to pay it off in the next three or four years,” Batz-Krause said. “If you transfer that debt and start spending on the credit cards again, you’re just eating up your (home) equity.”
Batz-Krause also said homeowners who haven’t yet refinanced their mortgages – as millions of Americans have in the past three years – should look into it now before rates rise further.
“At the very least they should speak to their banker or adviser about refinancing that debt, especially if there’s a different of 1 percent or so between what they’re paying and what’s on offer,” she said.
By taking a new mortgage with a lower rate and longer term, a consumer can free funds for paying down credit card debt, setting up an emergency fund or saving for retirement, she said.
Batz-Krause stressed that “there’s no one size fits all” strategy for dealing with debt and advised that consumers develop a comprehensive plan with a consultant or an adviser.
“I’d like people to have peace of mind that they’re making the right decision now so they don’t have to worry about what’s going to happen to the economy,” she said.
Mitchell Kraus, a certified financial planner who heads Capital Intelligence Associates in Los Angeles, said that the biggest impact of rising interest rates for investors is going to be on bonds. The prices of bonds, which are debt securities, fluctuate according to market conditions; when interest rates rise, the prices of outstanding bonds fall.
“The best thing they can do with the bond portions of their portfolios is to look at their time frame,” he said.
As rates rise, investors who buy bonds to hold to maturity may see them drop in value on their account statements, “but they’ll be getting their income payments without problems for the life of the bond,” Kraus said.
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