The Impact of Rising Interest Rates on Retirement Planning
It may seem like the last 3-4 years have seen a business news cycle dominated by all things interest rates. There is no doubt the “cost of money” is critically important. Rising Interest rates can create both opportunities and risks for your retirement planning. Higher borrowing costs and market volatility may impact portfolio returns and income strategy. Understanding how these changes affect your retirement is key to making informed decisions.
At Breakwater Capital Group, we bring over five decades of combined experience managing financial assets for individuals and families with diverse goals, even in shifting economic conditions. We proudly serve clients nationwide through our Massachusetts, New Jersey, and Colorado wealth management offices.
This article discusses how changing interest rates influence various investments and outlines actionable strategies to consider for your retirement planning.
Impact of Rising Interest Rates on Asset Allocation
Interest rates affect asset classes in distinct ways, directly shaping asset allocation strategies. Here’s a closer look:
- Bonds: Rising interest rates generally lead to lower bond prices, as bond prices move inversely to interest rates. However, new bonds issued during periods of higher rates offer more attractive yields, which can benefit income-focused investors.
- Stocks: Stock markets often experience volatility during rising interest rates, particularly as corporate borrowing costs increase, potentially leading to lower profits. While short-term dips may occur, diversified portfolios can help mitigate excessive exposure to such fluctuations.
- Real estate: Rising interest rates can increase borrowing costs for buyers, potentially reducing real estate prices. However, property values are also influenced by supply and demand. Retirees looking to sell investment properties should consider how local market conditions, inventory levels, and economic trends, combined with higher rates, may impact real estate.
- Cash: Higher interest rates can make cash holdings more attractive as savings accounts and money market funds offer better returns. It’s important to remember that inflation can erode the real value of cash holdings, so keeping too much in cash could still be a risk.
As interest rates rise or fall, it’s a good idea to review your asset allocation to stay on target. Breakwater’s Denver financial advisors and the team of financial planning professionals in Paramus and Greater Boston specialize in strategies to help reduce risk while aiming for steady returns.
Impact of Rising Interest Rates on Investment Returns
Rising interest rates can create headwinds for equity-heavy portfolios and long-term bonds. Over the past two decades, rate hikes have typically been driven by Federal Reserve efforts to manage inflation or economic growth, with varying impacts on asset performance.
1999-2000: The Fed raised rates from 4.75% to 6.5% to cool down the economy during the dot-com boom. Tech stocks initially soared but crashed when the bubble burst. Bonds performed worse than equities, while oil prices rose due to increasing global demand and supply issues. This period highlighted commodities as useful inflation hedges.
2004-2006: Rates increased from 1.0% to 5.25% to normalize post-recession levels after the 2001 downturn and 9/11. Equities generally performed well, supported by strong economic growth, while bonds declined as yields rose.
2015-2018: Rates moved from 0.25% to 2.5% as the Fed aimed to unwind post-2008 financial crisis stimulus and return to a neutral rate. Equities experienced moderate growth, and higher-yield bonds gained appeal.
2022-2023: Rates sharply increased from near-zero to 5.5% as the Federal Reserve acted to combat post-pandemic inflation caused by supply chain disruptions and stimulus spending. Equities experienced significant volatility, while bonds began offering more attractive yields.
Examining historical data from periods of rising interest rates highlights potential risks in specific portfolios. Breakwater’s Greater Boston, MA, wealth management, and Denver financial planning team uses a data-driven approach aiming to keep your portfolio resilient even during uncertain times.
The Federal Reserve’s Role and the Impact on Different Interest Rates
While much emphasis has been placed on the Central Bank’s decision around interest rate policy, the vast majority of investors have exposure to bonds of differing credit quality and duration. While the Federal Reserve controls the overnight rate, impacting securities like money market funds and Certificates of Deposit, longer term rates are influenced by growth and inflation expectations along with the odds of repayment by the borrower.
Historically the direction of monetary policy does have some impact on longer term rates, but the relationship itself has seen varying levels of influence through different economic cycles. All the more reason to embrace diversification here much like investors do with the equity portion of their portfolios.
Impact of Rising Interest Rates on Income Generation
While rising interest rates can challenge growth-focused investors, they present opportunities for retirees who rely on fixed-income investments. Higher interest rates increase yields on bonds, CDs, and savings accounts, which can enhance income generation.
Benefits and Considerations for Fixed-Income Investments
- Higher yields: Newly issued bonds and interest-bearing accounts often offer more attractive returns in a rising rate environment.
- Laddering strategies: By staggering bond maturities, you can take advantage of increasing rates while maintaining liquidity.
- Risk awareness: Chasing higher yields by investing in riskier fixed-income securities can expose you to unnecessary risks, so careful selection is vital.
Potential Tax Implications
Rising interest rates can also affect one’s tax liability. Increased income from taxable bonds or money market accounts may push you into higher tax brackets, increasing what you owe to the government and, in some instances, higher Medicare premiums. Breakwater’s retirement planning team in Colorado, Massachusetts, and New Jersey are attuned to these concerns and can help evaluate and adapt strategies for your particular situation.
Strategies for Adjusting Your Retirement Plan
Adapting your retirement plan to a rising rate environment requires a thoughtful and proactive approach. Consider these steps:
- Review risk tolerance: Reevaluate your comfort with market volatility to verify if your current portfolio holdings reflect your risk profile.
- Rebalance regularly: Adjusting your portfolio to maintain your target allocation is wise as asset values shift.
- Consider fixed-income investments: Bond prices may drop as interest rates rise but tend to increase when rates fall. Incorporating bonds or other interest-bearing assets with higher yields can enhance your portfolio.
- Explore alternative investments: Assets such as commodities, private equity, and hedge funds can provide diversification and may help reduce sensitivity to interest rate fluctuations.
- Stress-test your plan: Simulate how your portfolio might perform under various economic conditions to identify potential risks.
Breakwater’s fee-only financial planner in Denver can provide recommendations on how to adjust your retirement plan to meet evolving challenges.
Why Consider Breakwater?
Rising interest rates can present challenges, but at Breakwater, we believe they also bring opportunities. When you work with us, you gain access to clear and meaningful advice customized to fit your goals and risk tolerance.
Here’s what you can expect:
- Direct, easy access to your advisor whenever you need guidance.
- A relationship built on transparency, trust, and unbiased advice.
- Consistent communication to keep you informed.
- 24/7 digital access to your financial plan and investments for complete clarity.
You’ll also benefit from the nationwide expertise of our fiduciary advisors, located in wealth management offices in Denver, Greater Boston, and Paramus. We’re here to help you navigate change with confidence.
Contact us today to schedule a consultation and explore strategies to adapt your retirement plan to a rising interest rate environment.
The views expressed represent the opinions of Breakwater Capital Group as of the date noted and are subject to change. These views are not intended as a forecast, a guarantee of future results, investment recommendation, or an offer to buy or sell any securities. The information provided is of a general nature and should not be construed as investment advice or to provide any investment, tax, financial or legal advice or service to any person. The information contained has been compiled from sources deemed reliable, yet accuracy is not guaranteed.
Additional information, including management fees and expenses, is provided on our Form ADV Part 2 available upon request or at the SEC’s Investment Adviser Public Disclosure website, www.adviserinfo.sec.gov. Past performance is not a guarantee of future results.
