Master the Fed Funds Rate, Help Clients Master Retirement

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When the Federal Reserve adjusts the federal funds rate, the effects ripple through every corner of the economy.

For financial professionals, grasping these dynamics is essential to helping clients manage their money wisely, especially those planning for or living in retirement. Understanding what the federal funds rate is — and how it influences investments, loans and consumer behavior — helps advisers develop strategies that bolster client outcomes.

What is the federal funds rate?

The federal funds rate is the interest rate at which banks lend reserves to one another overnight to maintain required reserve balances. Set as a target by the Federal Open Market Committee (FOMC), this rate serves as the Federal Reserve’s primary tool for steering economic conditions.

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The Kiplinger Building Wealth program handpicks financial advisers and business owners from around the world to share retirement, estate planning and tax strategies to preserve and grow your wealth. These experts, who never pay for inclusion on the site, include professional wealth managers, fiduciary financial planners, CPAs and lawyers. Most of them have certifications including CFP®, ChFC®, IAR, AIF®, CDFA® and more, and their stellar records can be checked through the SEC or FINRA.

Here’s what you should know:

Economic growth tool

Low interest rates encourage borrowing and spending, fueling economic expansion.
High rates discourage borrowing, curb spending and reduce inflation to stabilize the economy.

Market impact. Though the Fed sets a target range, the actual rate depends on the supply and demand for overnight loans in the banking system.

Grasping the federal funds rate’s role provides the foundation for understanding how the rate affects consumers and markets.

The federal funds rate's ripple effects

Loans and borrowing

The most immediate impact of a rate adjustment is felt in borrowing costs for consumers and businesses. A rate hike means loans become more expensive, potentially impacting client decisions on financing.

Mortgages

Mortgage rates closely follow changes in the federal funds rate. For example, 30-year fixed mortgage rates jumped from 2.68% in late 2020 to over 7% by September 2023 as the Fed raised rates.
Advisers should help clients considering a home purchase or refinance lock in fixed rates before potential hikes worsen affordability.

Consumer credit. Credit card balances, car loans and home equity loans become pricier with each rate increase. Alert clients to rising costs that can strain their budgets.

Debt management advice. Encourage clients to focus on paying down high-interest debt during rising-rate periods to help reduce financial strain.

Investments

Rate changes also influence market performance, presenting potential opportunities and risks in client portfolios.

Stocks. Higher rates often signal lower corporate profits due to increased borrowing costs, potentially spooking equity markets. Defensive or dividend-paying stocks may provide stability.

Bonds. Bond prices move inversely to interest rates. Long-term bonds may lose value in a rising-rate environment, while shorter-duration bonds can offer more flexibility.

Alternative investments. Rising rates don’t impact all asset classes equally. Commodities, for example, may gain during inflationary periods as higher input prices drive performance.

Helping clients rebalance their portfolios with these factors in mind can mitigate risks and uncover growth potential.

Mortgage rates and housing

For clients planning real estate transactions, the federal funds rate plays a pivotal role in determining affordability.

Rate sensitivity. Mortgage rates have climbed alongside the Fed’s rate increases. Timing a purchase before another rate hike can help save clients significant money over the life of a loan.

Advising retirees. Retirees downsizing or moving should factor in how rate changes might impact their fixed budgets and retirement cash flow.

Inflation, CPI and the federal funds rate

Inflation is often central to the Fed’s rate decisions. Managing rising inflation (measured by the consumer price index, or CPI) requires a careful balance.

Inflation control. The Fed raises rates to discourage borrowing and reduce spending, cooling inflation. For instance, as the CPI hit 8.3% in early 2022, the Fed took aggressive rate hike measures.

Client concerns. Rising rates reduce purchasing power, especially for retirees. Advisers must help clients adjust for cost-of-living increases by including inflation-protected investments, such as TIPS (Treasury inflation-protected securities).

Educating clients about how inflation ties directly to Fed policy helps them understand the rationale behind portfolio adjustments and spending changes.

Retirement planning in a rising-rate environment

Retirement planning becomes more complex when rates rise, but proactive strategies can shield clients from the brunt of these challenges.

Here are three key areas to consider addressing with clients:

1. Reassess income plans:

Shift bond allocations toward shorter durations to help reduce exposure to rate-driven declines in value.
Incorporate dividend-paying stocks, real estate income and other alternative income streams for diversification.

2. Keep debt in check. Retirees should aim to minimize high-interest debt, such as credit cards or variable-rate loans, which become more expensive as rates climb.

3. Inflation-protected investments. Consider assets like TIPS or inflation-linked annuities that specifically hedge against rising costs.

These strategies keep portfolios resilient while helping to ensure retirement income keeps pace with living expenses.

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Actionable strategies for financial professionals

Navigating client relationships in an era of rising rates requires clarity, experience and tailored solutions.

Be proactive. Regularly review portfolios to align with new market and economic conditions. Identify areas of risk, such as long-duration bonds, and offer suitable alternatives.

Educate effectively. Translate complex financial actions into digestible guidance. For instance, explain how locking in mortgage rates or moving to shorter-term bonds can impact their bottom line positively.

Tailor recommendations. Different clients require different approaches. Work with retirees on income-stability strategies while guiding younger clients on taking advantage of volatility for long-term growth.

Communicate transparently. Build trust by staying open and approachable. Help clients make informed decisions by explaining the big picture without using confusing jargon.

The bottom line

The federal funds rate plays a critical role in the financial health of your clients. By understanding its impact on loans, investments, inflation and spending, financial professionals can provide invaluable guidance that helps protect and enhances client wealth.

Whether preparing retirees for steady income needs or advising families on rising borrowing costs, your experience in navigating Fed actions will help foster stronger client relationships and deliver real value.

Stay informed, stay proactive and, above all, help your clients thrive in any economic climate.

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Our firm is not affiliated with the U.S. government or any governmental agency. Neither the firm nor its agents or representatives may give tax or legal advice. Individuals should consult with a qualified professional for guidance before making any purchasing decisions. Past performance is not indicative of future results. 4381705 – 4/25

Disclaimer

This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.

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As the chief market economist at AE Wealth Management, Tom Siomades brings a rare mix of portfolio management, financial markets knowledge and marketing savvy to help translate the complicated world of investing into everyday terms. Too often in an increasingly specialized world, people retreat to their areas of comfort and knowledge, but Tom strives to bridge that divide in a memorable and relatable manner through his writings and public speaking engagements.