NEW YORK – Interest rates arent budging anytime soon. That
means its time to rethink your financial strategy.
The Federal Reserve said last week that it would keep its
benchmark rate at record lows for at least another three years.
For savers, the prospect of persisting low rates may mean its
finally time to consider alternatives to the savings accounts and
certificates of deposit yielding stingy returns of less than 1
percent.
For borrowers, the promise of low rates may be the assurance you
were seeking to start researching a new car, a mortgage refinancing
or to become a homeowner.
Rates have been low for so long now that consumers have gotten
complacent about it, said John Hudson, chair of government affairs
at the National Association of Mortgage Brokers.
Whatever your situation, the Feds announcement at least gives
you a degree of certainty about the future. That in turn could
provide the confidence to act on the big money decisions youve
been contemplating.
With rates staying low through 2014, here are some moves to
consider:
CDs amp; Savings Accounts
You dont need to close out your savings accounts and become a
day trader just yet. But it may be time to start thinking about
ways you can take on a little more risk while staying in your
comfort zone.
The purpose of CDs and savings accounts, after all, is primarily
to preserve the purchasing power of your money. But thats likely
not happening with inflation of 3 percent last year outpacing even
the best returns on cash accounts.
The average yield on a one-year CD, for example, is just 0.34
percent, according to Bankrate.com. Thats compared with 3.44
percent five years ago. Savings accounts are even stingier, with
the average yield barely registering at 0.10 percent. Even the more
generous rates offered by online banks arent far north of 1
percent.
And once banks start paying higher rates, theyll still have a
long way to go before they reach pre-recession levels, notes Greg
McBride, a senior analyst with Bankrate.com.
Unfortunately for savers, theres really no light at the end of
the tunnel, he said.
That means youll want to offset the minimal yields youre
earning on savings accounts and CDs. McBride said this could be as
simple as diversifying with investment-grade bonds, dividend paying
stocks or inflation-linked bonds.
Mortgages
If youve been thinking about refinancing or becoming a
homeowner, you can rest easy about mortgage rates. The bigger
concern is whether youll be able to capitalize on todays
historically low rates.
Even as the economy has picked up, banks have kept their
tightened lending standards in place. That means theyre checking
out financial backgrounds with greater scrutiny, including your job
stability and credit report.
So even though the average rate on a 30-year mortgage remains
below 4 percent, a spotty credit history will mean youll pay far
more. The upside now is that you have time to improve your credit
score before applying.
If your goal is to refinance, keep in mind that some new
variables may impact how much youll be able to save. The general
rule of thumb is that borrowers need to shave at least 1.5 to 2
percentage points from their rate in order for the refinancing
costs to be worthwhile.
But your monthly payment may not be that much lower if your
mortgage insurance rises. That could be the case with new loans
from the Federal Housing Administration, which raised mortgage
insurance premiums to 1.15 percent a month last spring, said Hudson
of the National Association of Mortgage Brokers. The mortgage
insurance for loans issued prior to that was 0.55 percent a
month.
To see if a refinancing is worthwhile, start by noting the total
cost stated in the good faith estimate form that lenders are
required to provide. The loan officer should also be able to help
determine what your total monthly payment would be after the
refinancing. After determining how much youd save each month, see
how long it would take to recoup that cost.
Credit Cards
The Feds announcement should theoretically be good news for
credit card holders. This is because the majority of credit cards
have variable rates that are impacted by the Feds rate.
The prime rate and federal funds rate dont necessarily move in
lockstep with each other. The prime rate reflects the actual rates
at which banks are lending to each other and is determined by the
market. Its used to peg rates on home equity loans, certain credit
cards and other consumer loans. So even if the prime rate is
steady, banks could increase that spread between the prime rate and
the rate they charge customers to boost their profits. This is
exactly what happened during the downturn as credit card issuers
struggled to recoup losses from rising delinquencies and compliance
with new regulations.
Those regulations prevent banks from hiking rates at will;
customers must now be notified at least 45 days in advance. But
theres still no cap on how high those rates can go.
That said, banks arent distributing the pain evenly. The gap
between the interest rates offered to those with poor credit and
those with good credit has widened, meaning your credit history is
more important than ever before.
Banks have increased their ability to slice and dice individual
segments (of the market) and make more targeted offers, said Keith
Gumbinger, an analyst with HSH Associates, a publisher of financial
data.
Car Loans
If you held off on buying a new car during the recession, the
temptation to trade in for a newer model may also be getting
stronger. The average interest rate on a new car loan is just 5.12
percent, compared with 7.61 percent five years ago, according to
HSH Associates.
But keep in mind that the average only captures the rates
offered by banks and credit unions. The rates offered by the
financing units of car dealerships could be much higher, and buyers
often sign up without shopping around because of the
convenience.
In other cases, Gumbinger notes that dealers offer special
prices if buyers agree to sign up for in-house financing.
But if you do the math, you may find that a lower rate from an
outside lender would eventually offset any special price youre
offered by the dealership.
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