One of the unexpected, but positive, side effects of high inflation is that rates on deposits and short-term bonds have risen dramatically. For most people, this has not gone unnoticed.
As a result, many people have been plowing money into accounts to earn rates of interest they may not have seen in a very long time, or ever.
Inflation reached levels not seen in nearly 40 years, so for savers and investors below the age of 60 (i.e., working age the last time this happened) this is a very foreign experience.
Recently, I spoke to Rachel Christian from Penny Hoarder in this article, including how people are putting money in places that have been (safely) ignored for a long time.
But like most things, there’s a catch.
What’s that?
Earning a decent return on bank deposits or short-term bonds is a good thing, but it won’t last forever.
In fact, some market participants expect it to be gone within a few months, with the assumption that the Federal Reserve will promptly reduce interest rates to avoid causing a recession.
That’s because interest rates are at levels intended to restrict economic growth (and slow inflation), and restricting economic growth isn’t good for anyone.
The US government also has an incentive to cut interest rates quickly to reduce its own interest expense (i.e. lower rates on newly issued debt, and refinancing existing debt).
As an example, if you owned a 3-month treasury bill the rate of interest you’re earning is guaranteed for just 3 months. And with a bank account, it can be changed overnight.
What alternatives are there?
Longer-term deposits and bonds pay a stated level of interest for longer periods of time, and when interest rates drop, bonds also tend to increase in price which adds to returns.
That’s why it’s important to stay focused on what’s ahead (not behind), and to have a plan in place to keep producing income after rates decline, and to benefit from it rather than being left behind.
For most people, this means investing in some combination of dividend-paying stocks, high-quality bonds, or tax-free bonds (aka municipal).
If you’d like to improve the quality of your portfolio, pick a time to speak with Paceline here.
This blog was written by Jeremy Bohne, Principal & Founder of Paceline Wealth Management. Paceline is a fee-only investment advisor serving clients in the Boston area, and on a remote basis throughout the country. Paceline specializes in helping tech and biotech executives, physicians, and those seeking financial planning services.