|
Page 1 of 2
As any bond trader will tell you, anybody who can precisely figure out the short term direction of interest rates can make a fortune in the  market. Having said that, it doesn’t take a genius to figure out that - in the medium to long run - interest rates are definitely on the way up. The outlook for interest rates is bleak, unless of course, you have fixed rate debt and cash to invest. The decisions you make right now will have an enormous impact on your wealth and livelihood when interest rates increase down the road.
There are a few things that every individual consumer needs to know about interest rates. We’ll begin with the current climate. In the last few months, the rate for a 30-year fixed rate mortgage has been creeping up; it’s not a giant leap - about half a point, but it’s indicative of things to come. A rough estimate is that every percentage increase in the APR will end up costing you an additional 20% during the life of the loan.
So keep that in mind if you’re still waiting for another 10% decline in housing prices. You could very well end up buying the house cheaper only to end up paying a higher interest rate over the life of the loan. To take full advantage of the current interest rate environment, make sure you’re buying a house or condo that you plan to occupy or keep as a rental for a very long time to come. Because once you sell it, you’ll lose that lucrative interest rate that you locked in. Again, the key is to buy now and holding for a long time.
We’ve already seen a stratospheric rise in credit card interest rates. Last week, the Federal Reserve reported that the average interest rate on credit cards reached 14.26 percent in February. Here again, those rates are likely to continue rising. We wouldn’t be surprised if they peaked at 18% or higher. The banks say they’re forced to increase the rates to compensate for losses from credit card defaults. It might also have a bit to do with maximizing their profits or making up for all those bad real estate loans. Bankers have learned that there seems to be little consumer resistance to high credit card rates - especially with younger borrowers.
Due to the recession, auto dealers have been forced to lure customers in with some pretty attractive car loan rates. But even those are on the rise - they’ve leaped from a little over 3% in December and are now approaching 5% and they’re not likely to head south anytime soon.
Always remember that when you borrow money, there’s a lender on the other side of the transaction. And one of the things that will be on the top of his mind is preserving the value of his investment. So, if inflation takes off, like many economists predict, investors will demand a rate of return that is higher than the prevailing rate of inflation.
If inflation does take a hike, then brush up on a little bit of history to get a clear vision of what the interest climate will be a few years down the road. Those of us old enough to remember can tell you horror stories about the early eighties when banks were offering fixed thirty year mortgages at 18% and even the government had to pay 16% on ten year treasuries. To get a sober grip on these figures, at current interest rates, you only have to pay a monthly payment of around $1,100 on a $200,000 mortgage. Back in 1981, the same loan would have cost you closer to $3,000 a month. People used to actually boast about snagging a 13% thirty year mortgage.
We’re always harping on how consumers should be tax aware when it comes to managing their finances. They should also be very interest rate sensitive and adjust their spending and investment habits according to their best informed judgment of where interest rates are heading.
If you share our belief that the interest rate climate will be radically different in the next two to five years, here are some of the things we recommend.
1. If you’re thinking of buying a house for the long term - think of doing it soon. Make sure you’re buying your dream house or a rental property that you intend to hold onto for a very long time. You need to remember that if you sell the house in three or four years, you have to pay off the low rate interest rate and go shopping for another home at whatever the prevailing thirty year mortgage rate happens to be. And when interest rates are high, it puts downward pressure on the price of houses. So not only will you be giving up a low interest rate, you might have to sell at a discounted price.
|
