April 28, 2004 Transcript
How you can avoid rising interest rates?
HEMMER: When Alan Greenspan talks, we know the world listens. The Fed chairman suggesting last week that interest rates are ready to rise. Industry experts expect that sooner rather than later. What does it mean for you? That's what we're talking about this morning with David Bach, our resident personal finance contributor. His latest best- seller is "The Automatic Millionaire." David is here with some "90- Second Tips" for getting ready for higher interest rates. Good morning to you.
DAVID BACH, CNN PERSONAL FINANCE CONTRIBUTOR: Good morning, Bill.
HEMMER: So, the Fed chair was talking last week. What was the signal that you heard?
BACH: Well, there are two things. One, he said he doesn't have to raise rates right away, but that it's reasonable to expect rates could rise. It doesn't have to rise a lot, but they could rise.
HEMMER: So, he's portending.
BACH: So, he's doing what he always does, which is not saying exactly where he's going, but the market has already reacted. The 10- year treasury, which is really the indicator of where rates are going, the 10-year treasury has already moved up. So, there's already a predictor in the marketplace that rates are going to be moving up in the short term, and realistically in the long term, too.
HEMMER: All right. Many times Alan Greenspan doesn't speak in English. But we're going to speak in English today.
HEMMER: When rates go up, how are individuals affected here in the U.S.?
BACH: The obvious thing is our mortgage. You know, this is what costs us the most money is our mortgage payment. So, if you have a mortgage, and also credit card debt, when interest rates rise, the cost to borrow money goes up.
So, for instance, let's take a look at your mortgage. Right now, if rates go up -- we have a little chart here that will show you. It just shows you that if you have, for instance, an adjustable rate mortgage, how much it changes. So, let's say your rate is 5.5 percent right now on a $250,000 mortgage. Well, your payment would be $1,419. But if rates go up just 1 percent to 6.5 percent, you can see there that now the mortgage is going to $1,580.
So, as rates move up, the cost to own your home, the exact same home, can rise, especially if your rate is not fixed. And so, this affects all of us because the expense of our home goes up. And then we also worry, well, will the price of home values drop?
HEMMER: So, you're paying more money. So, if you want to avoid that, what do you do? What's your advice?
BACH: Obvious. No. 1, lock in rates now on your mortgage. OK, stop waiting. If you are considering, should I lock in my rate? Yes. Lock in your rate. Look at a 30-year mortgage or a 15-year mortgage, because, folks, we're at a 42-year low. We were at a 46-year low on interest rates. Now, we've bumped up a little. So right now, we're at a 42-year low. No reason to wait. Lock in rates.
If you have an adjustable rate mortgage, and that may be like one of these mortgages where your rate is fixed for a year or three years or five years, either again, refinance to a fixed rate or look and find out, when is my rate coming due? Because if your rate is coming due in the next six months, you want to know, well, how much will it adjust if rates moved up?
HEMMER: And those who delay are going to pay a price, as you've said many times. Other than mortgages, what else is affected by this?
BACH: Credit cards. So, if you're got a credit card today, let's say it's 15 or 20 percent, which most people have, when you get your junk mail this week there are all types of offers right now that say transfer your debt to us for 0 percent interest. Many of these credit card companies are still offering 0 percent interest for six months to a year. So, you know what? Take advantage of that. Move your debt. Lock in 0 percent interest right now, because they're not going to be offering that in six month.
HEMMER: So, that's on a credit card. Investments?
BACH: All right, investments, we've got to look at, what should you buy, and what should you avoid? So, when rates are moving up, you have to be very careful.
So, some good investments when rates are moving up that are safe, very short-term investments: money market accounts, CDs, short-term treasuries, low-duration bond funds -- those are bond funds that buy short-term investments -- and inflation bonds. We talked about it the last time I was on the show. I-bonds, these are bonds that if inflation moves up, the interest rate moves up so you are protected. And also TIPS, which are treasury-inflation protected securities.
HEMMER: If you want to be more conservative on the investment side, where do you go now?
BACH: You look at doing what's called laddering treasuries or laddering bonds. And that's where you buy a one-year, two-year, three-year, four-year, five-year bond, for instance. You are getting a little bit higher rate as you go farther out on what we call the duration curve. And that means that when the bond comes due every year, you just move that bond. So, when your bond comes due, you go and buy a six-year bond. Very conservative approach for people that say, I don't know where rates are going, and what should I do?
HEMMER: We call it "90-Second Tips" for a reason. We're almost out of time. What do you avoid when it comes to investments?
BACH: You avoid long-term bonds, and you avoid long-term bond funds because when rates move up, the value of these bonds drop. You also avoid long-term munis. These are things over 10 years, long-term CDs and especially preferred stocks that are B rated. Because, again, when rates move up, the value of these investments drop.
HEMMER: Thank you, David. Good to see you.
BACH: Thank you.
HEMMER: David Bach with us today. Also, you can hear David Bach's nationally-syndicated radio show Saturday afternoons on Sirius satellite radio, and he's here every Wednesday on Americans with tips on how to improve your financial life. Good to see you, as always.