Higher Interest Rates: 6 Things to Know for Retirement Planning

If you are in or nearing retirement, you may be watching rising interest rates with a mixture of optimism and fear.

The optimism comes from hopes of finally getting more out of your certificates of deposit and other short-term savings. The fear is that investments in the bond market might continue to sag, making yields on current fixed income holdings look rather disappointing compared with what new investments might offer. And if you have money in bond funds, you may already be feeling a bit lighter in the pockets.

For investors facing complicated choices with long-term savings as interest rates rise, financial experts offer these six tips to help you pursue your retirement goals.

1. Know Where You Stand: Investors at or near retirement may have a higher concentration of income-producing securities in their portfolios. “It is imperative that you assess the positions in your portfolio and review the impact rising rates could have,” said Craig T. Laffman, director of fixed income trading & syndicate at TD Ameritrade. Familiarize yourself with the duration of your portfolio as well because rising rates have different effects on long-term bonds versus short-term bonds.
2. Look for Opportunities: Once you understand what’s in your portfolio and the duration of your investments, you should consider ways to take better advantage of rising rates. “There may be an opportunity to reduce duration risk and reposition bonds that produce higher income to the portfolio,” Laffman said. “Rising interest rates will generally negatively affect the price of bonds, but there is also a buying opportunity to pick up bonds with higher yields.”
3. Adjust the Scale: Are a lot of your investments in high-dividend stocks? Those names could be under pressure as interest rates rise. Bond yields could eventually surpass dividend yields. Fixed income tends to be somewhat less risky than equities, so a less risky product with a comparable yield may be more attractive. “If your fixed income has suffered a major drop, you might have too much exposure to equities based on how much risk you’re willing to tolerate, and equities traditionally have more volatility than fixed income,” said Matthew Sadowsky, director of retirement and annuities at TD Ameritrade. “So you might want to rebalance, which essentially results in recognizing some gains from the winners, and perhaps buy some more of the underperformers, particularly if they’re undervalued.”
4. Before Selling Bonds, Stop and Consider: If you’re planning to hold onto bonds until they reach maturity, volatility in bond prices may be less worrisome to you. At maturity, the principal amount gets returned to you regardless of any ups and downs in the price between today and the maturity date. “Overall, if interest rates keeping going up, bond values would go down as a result,” Sadowsky noted. “The impact would be greater for bonds with a longer duration. But if you’re holding the bonds to maturity, you get the face amount back, so you don’t need to worry as much about the price on your bond holdings prior to maturity. It only becomes a big issue if you need to sell the bonds before maturity.”
5. Don’t Count on Rates to Keep Rising: Yields have come a long way very quickly and there’s no guarantee they’ll continue going up. In fact, Sam Stovall, chief investment strategist at CFRA, expects the 10-year Treasury yield to be around 2.5% in 2017, which is lower than in mid-December 2016. That said, the Federal Reserve did raise the fed funds rate in December 2016 for the first time in a year, and the Fed projects three more rate increases in 2017.
6. Know What You Don’t Know: “We don’t know if interest rates will go up or down,” Sadowsky said. “What we do know is that over the last decade what we expected to happen didn’t always happen.” That means investors should consider being prudent and not making big moves based on the short-term path of the bond market. It’s fine to make short-term moves if you’re an active trader, or with a portion of your nest egg that you’ve set aside for opportunistic investing. But not with funds slated for retirement.

Also worth pondering: Rising rates could benefit anyone thinking about buying long-term care insurance. Higher interest rates could help insurance providers earn more money on the reserves they set aside for future claims, meaning they may be able to avoid increasing premium rates on new offerings, according to the American Association for Long-Term Care Insurance.