Last week, the Federal Reserve announced its first interest rate cut since the early days of the Pandemic. The highly anticipated rate cut resulted in a 50-basis point (half of one percent) reduction in the Federal Funds Rate, an important overnight borrowing rate set by the Federal Reserve. Outside of Covid, the last time the Fed reduced the Federal Funds Rate was during the 2008 global financial crisis.
The Federal Reserve’s dual mandate from Congress is to promote maximum employment while maintaining stable prices. This shift in the rate environment signals the Fed’s belief that the economic risk of high inflation has been reduced, relative to the risk of increasing unemployment in the US.
“We’re trying to achieve a situation where we restore price stability without the kind of painful increase in unemployment that has come sometimes with this inflation. That’s what we’re trying to do, and I think you could take today’s action as a sign of our strong commitment to achieve that goal.”
-Federal Reserve Chair Jerome Powell | September 18, 2024, Press Conference
The “Dot Plot” is a chart by the Federal Reserve’s Open Market Committee that illustrates their forward-thinking view on future interest rates. Consensus generally demonstrates that the Federal Funds Rate will be around 4.5% by the end of 2024, in the low 3% range at the end of 2025, and there will be less consensus in 2026/2027.
So, what does this mean for you? Let’s look at the different impacts of a reduction in interest rates.
Yields on Deposits
Savers have been the beneficiaries of higher interest rates. Before the Coronavirus pandemic, a “good yield” on a High Yield Savings Account was around 2%. Today, it is 4.5% – 5%. As rates come down, people with significant cash savings will want to pay close attention to the yield they are receiving on their deposits. These once high-yielding accounts may quickly be reduced to a less appealing interest rate.
Bond Yields
In recent years, bond yields have risen significantly from the mid to low 2% range that we had seen for nearly a decade after the financial crisis. As interest rates decrease, we would expect to see the effective yield on bonds also decline. However, on a positive note, an Economics 101 class would tell us that the price of an already-issued bond should increase in such an environment (holding all other variables constant).
Mortgage Rates & Refinancing
If you purchased a home in the past three years, pay close attention to rates and look for a refinancing opportunity. Mortgage rates have already come off their peak and some are projecting rates to fall below 6% by the end of the year. While rates probably are not going back into the 2%-3% levels anytime soon (maybe not in our lifetime) there may be the opportunity to refinance to a lower payment.
Home Prices
The elephant in the room… will home prices go even higher if rates come back down? That is the million-dollar question. While real estate prices have been nearly impossible to predict recently, we could see prices move even higher. If rates are lower and the payment is less… there may be additional buyers back in the market driving prices up even more. This will be an interesting trend to watch over the next 12-18 months.
Auto Prices
Similarly, auto loans are near 7% now, compared to 4% when the Fed started raising rates. There likely will not be mass purchases of new vehicles, but lower auto loan rates would certainly nudge holdout vehicle purchasers back into the showrooms.
Investments
Lower rates are better for companies, as it allows them to reduce costs associated with borrowing and making capital improvements. However, most pundits and economists believe the current rate cuts are already priced into the market. Lower rates may, however, reduce pressure on the smaller companies that rely heavily on borrowing power to grow their enterprises.
As we continue to monitor the interest rate environment, many factors will impact where rates go from here. It is evident that the Fed is still seeking a “soft landing” while bringing rates back down to “normal”. As rates change, it is important to monitor cash flow planning, debt management, and short-term liquidity. If you have any questions about how interest rate adjustments affect your scenario, please do not hesitate to contact us.
You may contact Ballast by visiting ballastplan.com, calling our office at 859.226.0625, or emailing info@ballastplan.com.
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