4 Reasons to Rejoice Over Interest-Rate Increases

Christine Benz: Hi, I'm Christine Benz for Morningstar.com. I'm here at the Bogleheads Conference, and I'm joined by investment expert Rick Ferri.

Rick, thank you so much for being here.

Rick Ferri: Thank you, Christine. Thank you for having me back.

Benz: For the past several years, there has been a lot of hand-wringing about the potential direction of interest rates. Investors have been very concerned about the implications for their bond portfolios. You wrote a thought-provoking blogpost where you argued that rising rates could, in fact, be reason to rejoice. Let's talk about some of the reasons that rising rates could, in fact, be a good thing for investor portfolios.

Ferri: I think that there probably are four reasons to rejoice over interest-rate increases--and by that I mean the Federal Reserve actually beginning to increase the fed funds rate, which right now is less than 0.25%. As for the reasons, first of all, there is such anxiety out there. It seems like every other story in the media, when something else isn't going on, is about when the Fed is going to increase rates. It seems like it's actually holding down the economy--this fear of rising rates and what it might do to my bond portfolio. I believe that if we can just see a 0.25% increase--any kind of a rate increase so we can get it out--people will see that their bond portfolio is just fine. They didn't lose everything. They didn't go down in value and, therefore, the big anxiety is going to be relived. So, now we have rising interest rates. Finally.

Benz: It wasn't that bad.

Ferri: It wasn't that bad. The anxiety and so forth was overdone. It would really, I think, help the psyche of investors to actually see this occur. That leads us to reason number two--

Benz: Which is that you think that there may be some spillover effects that could actually stoke the economy.

Ferri: I think that when news gets out that the Fed has begun to raise interest rates, there is going to actually be a boost to spending because a lot of people may have been holding back buying a home or doing something because they might've been saving or for some other reason. The news that the Fed has increased interest rates, even though they haven't been increased by very much, is going to cause people to say, "Let's go buy that house," or "Let's go buy that condo--let's do it now because interest rates are going up." And I believe that what we actually may see is a boost in the economy by some small percentage of GDP because interest rates are now going up and, therefore, now you need to go out there and borrow money and get done what you need to get done.

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Benz: And the beginning of the end of this "war on savers," you think, could be another potential positive.

Ferri: This whole recovery, our keeping interest rates at almost zero percent has been borne on the backs of people who live on fixed income. If you're an equity investor, of course, it's been really good; but if you are just a fixed-income investor living off CD income, you paid the price this economic recovery. By finally raising interest rates a little bit, it gives them some relief. They'll be able to get in their CDs and be able to get in some short-term bond funds--things that they live on. Retirees, in particular, will be able to start to get some income from it, and they'll feel relief. And relief, on the consumer level, is good for the economy.

Benz: Finally, you think that one of the reasons that investors needn't fear rising rates is that the Fed will, as you put it, get its hammer back. Let's talk about that.

Ferri: The Fed has certain policy tools that they can use when we go into a recession to try to get the economy stimulated again. One of the big tools they have is lowering interest rates, but we are already at zero. So, that big tool is gone. That big hammer is gone. That big messaging from the Fed, if you will, is gone. They can't lower rates. By raising rates, what happens is it gets to a normalized Fed policy where now they'll have some leverage to be able to lower rates if we actually start moving into a slowdown in the economy. They need to get back there. They need to get their hammer back. They need interest rates to go up a little bit so that they can come back down if they needed to if we go into slowdown--not a recession but just a slowdown. I think that getting the hammer back is the fourth reason.

Benz: Rick, it was a thought-provoking piece. Thank you for being here to share your insights today.

Ferri: Thank you, Christine.