MONEY

What Today’s Fed Testimony Means for Your Money

Federal Reserve Board Chair Janet Yellen prepares to testify on Capitol Hill in Washington, Tuesday, Feb. 24, 2015, before the Senate Banking Committee.
Susan Walsh—AP

Fed chair Janet Yellen is signalling a gradual interest rate hike this year. Here's how to be ready.

Federal Reserve Chair Janet Yellen’s testimony before Congress today bore her usual cautious language. But she signaled that an interest rate hike may still be on the table for later this year.

“If economic conditions continue to improve, as the Committee anticipates, the Committee will at some point begin considering an increase in the target range for the federal funds rate on a meeting-by-meeting basis,” Yellen said.

Yellen worked hard to assure lawmakers that any rise in rates would be gradual, and wouldn’t begin before June. The reason Fed chiefs take such care when talking about interest rates is that rates—and expectations about where they are headed—affect all aspects of Americans’ financial lives, from student loans and mortgages to inflation and retirement portfolios. And right now the Fed has an especially delicate task, because it is trying decide how to transition from the near-zero short-term rates it has stuck to since the 2008 financial crisis.

Here’s what could happen to your money when the Fed finally decides it is time to for interest rates to “lift-off”:

1. Home loans could get pricier

Higher rates make borrowing more expensive for banks, and they in turn pass that expense on to their own borrowers. That generally tamps down inflation but also means it’s harder to get loans for education, cars, and homes.

As a result, it’s a good idea to refinance your mortgage now while rates are relatively cheap. Interest on 30-year fixed rate mortgage remains much lower than before the financial crisis, but rates have been inching up as of late and would grow further if the Fed becomes more hawkish.

2. The “safe” part of your retirement portfolio could take a hit (but that might hurt you less than you fear)

Investors traditionally hold bonds to hedge against stock market risk, but a rise in interest rates will cause the value of a bond portfolio to drop. For those who have time to keep their money invested, however, the higher yields you’ll earn in the future will help make up for a drop in bond prices.

Short-term bonds are less risky than longer-maturity ones, and generally less sensitive to interest rate changes. But how your bonds perform will depend on exactly which interest rates change. The Fed directly controls short-term interest rates, so when they start moving those up, you can expect short-term funds to lose some value.

What happens to longer-term bonds is more ambiguous. They can have significantly more loss potential than short-maturity bonds. But MONEY contributor Carla Fried points out that it’s possible that even as the Fed tries to raise short rates, bonds like the 10-year Treasury could remain in demand by global investors, who see the U.S. economy outperforming Europe and Japan and want to hold a safe-haven asset. That would keep long rates down—bond prices and rates move in opposite directions—and for a time deliver comparatively better returns to investors in longer-term bond funds.

So for many investors, an intermediate-term bond mutual fund is a good way to balance the general riskiness of long-term bonds against short-term bonds’ specific vulnerability to a Fed rate hike this year.

3. The economy could slow down

Again, if the U.S. keeps growing, rising interest rates might be appropriate, and helpful in holding inflation and financial speculation in check. But it’s important the Fed gets its timing right, or a rate hike could stall the recovery—or even put it in reverse.

That’s what happened in Sweden, where the nation’s central bank trashed what was a promising recovery by pulling the trigger too soon. Like the U.S. Federal Reserve, Sweden’s Riksbank lowered rates during the recession in order to spur economic growth. Once that growth arrived in 2011, bankers decided to begin raising rates in order to thwart a real estate bubble. Soon after, hiring began to fall, deflation hit, and Sweden’s magic recovery was over. The country has yet to return to its 2011 level of growth.

In deciding when to get rates back to normal, that’s the scenario Yellen is trying to avoid.

MONEY Currency

Why You Might Not Want to Cheer for a Strong Dollar

Chris Pine in JACK RYAN: SHADOW RECRUIT, 2013
Anatoliy Vorobev—©Paramount/Courtesy Everett Col Don't tell Jack Ryan, but a strong buck is a mixed blessing.

It makes foreign vacations cheaper, but selling things to foreigners harder

The U.S. dollar has strengthened against pretty much every major currency over the past year. That feels like good news—and in some ways it is. It means that investors worldwide are betting that the U.S. economy is strong; it’s also nice if you’ve been planning a get-away to the French countryside.

And intuitively it just feels like a strong U.S. currency is a good thing, and a weak one is bad. Last year, the plot of the action flick Jack Ryan: Shadow Recruit turned on a (mild spoiler alert) Dr. Evil-like plot to tank the greenback’s value.

But at this moment a too-strong dollar may be the bigger worry.

That is the context behind all the headlines you may be seeing these days about so-called “currency wars.” In a currency war, countries don’t try to take down other nations’ currencies. Instead, they cut the value of their own currencies, in order to make their products cheaper and stoke demand. When one currency falls, that means somebody else’s currency has to go up. Lately, the U.S. has been that somebody else.

Currency

 

Why is the dollar going up? Central banks around the world, from Europe to Japan to Mexico, have been doing what our own Federal Reserve did following the financial crisis, buying up bonds and aggressively seeking to hold down their interest rates. They’re not only doing this to lower the relative value of their currencies—nobody has actually declared a currency war—but it has had that side effect. With yields on 10-year German bonds at just 0.3%, U.S. Treasuries that are paying almost 2% look like a better deal.

When investors seek to hold U.S. assets, that pushes up the buck too.

And there’s reason to think the dollar will keep getting stronger for a while, says Wells Fargo Securities senior economist Sam Bullard. The U.S. economy looks pretty good right now compared with the rest of the world. The American gross domestic product, for instance, grew by 4.6%, 5%, and 2.6% over the past three quarters, while the eurozone muddled through with growth rates at 0.3% or lower. Our unemployment rate is down to 5.7%, while in the eurozone it is stubbornly stuck over 11%.

As a result, the Federal Reserve has begun to put out hints that it will raise short-term interest rates sometime in 2015, the first increase since the Great Recession. Again, that should make dollar-denominated assets relatively more attractive. And a strong dollar trend could feed on itself—the more stable the dollar looks, the more people will want to to invest in the U.S. “Investing over here if you’re foreign company committing capital is more attractive since returns will get translated into your home currency at a more favorable rate,” says Bob Landry, a portfolio manager at USAA Investments.

Still, whenever there are winners, there are also losers.

Who’s losing out? For a start, multinational corporations with significant businesses overseas. Procter & Gamble and its shareholders, for instance, endured disappointing earnings last year and announced that the consumer goods behemoth doesn’t expect to enjoy sales growth this year due to the dollar’s strength.

A strong dollar generally makes U.S. exports less attractive—consumers with euros and yen are finding our products more expensive. The ISM manufacturing new export orders index fell in January to its lowest level since the fall of 2012. That’s bad news for anyone who works in manufacturing, or any other business that hopes to sell to global markets.

Overall, Bullard says, a strong dollar should be “a net drag on overall GDP in 2015.” Perhaps Jack Ryan could have saved himself the trouble.

MONEY Debt

Americans Are Taking on More Debt—Again

Is it time to worry?

If the definition of insanity is doing the same thing over and over again and expecting different results, then Americans are starting to look a little batty: The average American’s consumer debt is climbing back to the highest levels since we exited the Great Recession. At the same time, however, mortgage payments are declining thanks to the current low home prices. So should Americans we be worried about the uptrend in consumer debt?

Debt on the rise

According to the Federal Reserve, Americans’ appetite for loans is increasing again. The amount of revolving credit outstanding, which primarily reflects credit card debt, totaled $882.1 billion in November, up from $853.3 a year prior. The amount of student loan debt outstanding has climbed from $1.21 trillion to $1.3 trillion; auto debt outstanding has grown from $866.4 billion to $943.8 billion; and mortgage debt outstanding increased $35 billion between the second and third quarter to $8.13 trillion. As of the third quarter, the Federal Reserve Bank of New York pegs Americans’ total debt at $11.71 trillion.

Those numbers may look great to banks like Wells Fargo WELLS FARGO & COMPANY WFC -0.65% , which rely on rising loan volume to pad earnings, but they should be worrisome to American consumers, because they suggest millions of people are spending more money paying down debt and less money saving for a rainy day or retirement.

Straining balance sheets

In the past year, the amount of revolving debt taken on by consumers has grown by 3.3% — nearly double the rate of growth in the average American’s income. As a result, the percentage of the average American’s disposable income that goes toward paying monthly consumer debt payments — such as credit cards, student loans, and auto loans (but not mortgages) — has increased for seven consecutive quarters to 5.3%.

Although the percentage of disposable income that goes toward consumer debt payments still remains below its prior peaks, the current trend could be worrisome, especially if it ends up mirroring the trend that followed the savings and loan crisis in the early 1990s.

Is this a big deal?

Although Americans are paying a greater share of their disposable income to finance consumer debt than they were a year ago, there’s little evidence to suggest that consumers are anywhere near a tipping point that could cause budgets to buckle, spending to sag, and the U.S. economy to slide. In fact, the bigger picture of household debt is much less worrisome than those consumer debt figures.

The financial obligations ratio — a broad measure that, unlike the debt-service-to-obligations ratio, includes rent payments, home owner’s insurance, and property tax payments — is at its lowest levels since the early 1980s. And the total debt-service ratio, which includes consumer debt andmortgages, stands close to 35-year lows at 9.9%. Thus these more comprehensive measures paint a much prettier picture of the average American’s financial situation than the consumer debt payment ratio alone.

Everything is OK — for now

With lower mortgage payments offsetting higher payments on credit cards, student loans, and auto loans, household debt isn’t likely to sink our economy — at least not yet. However, that could change if home prices inch their way higher and mortgage interest rates start to climb. If that happens, then higher monthly mortgage payments could be cause for concern that the average American’s debt has indeed become a problem again.

MONEY interest rates

Why U.S. Investors Should Care About the Currency War

A currency war will force the Federal Reserve to keep interest rates low.

At the end of 2014, it seemed all but certain that the Federal Reserve would raise interest rates in the first half of this year. But thanks in part to an escalating currency war and recent flare-up in Europe over Greek debt, those plans have been shelved.

The central bank said on Wednesday that it will keep short-term interest rates between 0% and 0.25% despite its opinion that “economic activity has been expanding at a solid pace.” Importantly, the Fed said that its assessment of when to raise them will take into account “readings on financial and international developments.”

While the bank didn’t offer details about what “international developments” it was referring to, there can be little doubt that the dollar’s strength plays a pivotal role. Since last July, the value of the dollar has soared by 15% versus the world’s major currencies, making U.S. exports less competitive in global markets.

The impact from this has become increasingly clear as American companies report earnings for the final three months of 2014. “The rising dollar will not be good for U.S. manufacturing or the U.S. economy,” Caterpillar’s CEO Doug Oberhelman told analysts and investors Tuesday. Procter & Gamble said its fourth-quarter sales struggled against a “five percentage point headwind” from foreign exchange. And even Apple’s shockingly strong quarter “would have been even stronger, absent fierce foreign exchange volatility.”

The dollar’s strength is being fueled by multiple factors. Lower oil prices have caused currencies in Russia, Mexico, and other energy-dependent economies to fall precipitously. Since the middle of last year, for instance, the Russian ruble has lost roughly half of its value versus the dollar.

Monetary policy by the European Central Bank is also playing a role. In an effort to jump-start the continent’s ailing economies, the ECB announced earlier this week that it would follow in the Federal Reserve’s footsteps by buying 60 billion euros in government bonds each month over the next year and a half. Because this expands the number of euros in circulation, anticipation of the news pushed the euro’s value to its lowest point vis-a-vis the dollar in more than a decade.

Finally, actions by central banks in Canada, Singapore, Japan, and other countries suggest a deliberate attempt to manipulate exchange rates in a broadening currency war. Most recently, Canada cut its benchmark interest rate last week by a quarter of a point, and the Monetary Authority of Singapore said this week that it would take measures to slow the appreciation of the Singapore dollar.

The net result is that the Federal Reserve has little choice but to delay an increase in interest rates. Doing otherwise would only further drive up the value of the U.S. dollar given that higher rates would attract international capital, and thereby boost the demand (and thus price) for dollars.

John Maxfield has no position in any stocks mentioned. The Motley Fool recommends Apple and Procter & Gamble. The Motley Fool owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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MONEY Jobs

Noooo! GDP Slowed in Fourth Quarter. And That’s Not Even the Worst Part

150130_INV_LowWageGrowth
Jan Stromme—Getty Images

While the U.S. recovery continued in the fourth quarter, wages didn't grow as fast as many economists were hoping.

Economists got a fresh read on the U.S. recovery today: The federal government reported fourth-quarter gross domestic product growth slowed to 2.6% from the third-quarter’s 5%.

The good news is few economists expected the economy to outstrip the third-quarter’s robust number. The bad news is slower GDP growth wasn’t the only disappointment. In fact, many experts were looking past that headline number at something else: the Employment Cost Index.

The Labor Department index, a measure of overall employment costs, including wages but also benefits like health care, rose 2.2% year over year for the fourth quarter. It had grown 2.3% in the fourth quarter, and economists had been hoping that it would meet or exceed that mark.

That it failed to do so suggests wage growth—largely seen as the last missing piece of the recovery—still hasn’t picked up as much as we would all like. The upshot is that, while Americans seem to be able to find work, solid middle class jobs are still disturbingly scarce. Sluggish wage growth also means the Federal Reserve, which is feeling pressure to raise interest rates, may have extra breathing room, since rising wages are a key driver of inflation.

Here’s the wage growth trend line, fyi:

ECI
MONEY Economy

Fourth-Quarter Numbers Not As Strong As Hoped

On Friday, economists got a fresh read on the U.S. recovery: The federal government reported fourth-quarter gross domestic product growth slowed to 2.6% from the third-quarter’s 5%.

The good news is few economists expected to outstrip the third-quarter’s robust number. The bad news is slower GDP growth wasn’t the only disappointment. In fact, many experts were looking past that headline number at something else: the Employment Cost Index.

The Labor Department index, a measure of overall employment costs, including wages but also benefits like health care, rose 2.2% year over year for the fourth quarter. It had grown 2.3% in the fourth quarter, and economists had been hoping to see it meet or exceed that mark.

That it failed to do so suggests wage growth — largely seen as the last missing piece of the recovery — still hasn’t picked up as much as we would all like. The upshot is, while Americans seem to be able to find work, solid middle class jobs still appear to be scarce. Sluggish wage growth also means the Federal Reserve, which is feeling pressure to raise interest rates, may have extra breathing room, since rising wages a key driver of inflation.

ECI

 

 

MONEY

Fed Holds Rates Steady as Economic Plot Thickens

The Federal Reserve has said it won't raise rates before summer. But the economy picture is no less complex as the date approaches.

The Federal Reserve wrapped up a two-day meeting in Washington Wednesday, leaving short-term interest rates unchanged at near historic lows.

The move was widely expected: The central bank indicated as recently as December that investors weren’t likely to see a rate hike before summer. But the Fed’s actions were being closely watched nonetheless. With the summer deadline now two months closer, recent moves by the European Central Bank to bolster the continent’s economy have complicated the Fed’s upcoming choice.

The upshot is that for now U.S. consumers should be able to rest assured. Ultra-low interest rates mean borrowing costs for mortgages and other loans are unlikely to climb dramatically. But investors won’t have it so easy: Stock and bond traders will continue to fret about U.S. and European officials’ decisions, meaning more volatility like the sharp drop in Treasury yields (and rise in bond values) that took place earlier this month.

The Fed’s last meeting took place in mid-December amid feelings of increasing economic optimism. The U.S. economy had logged 3.9% GDP growth in the third quarter and the November jobs report was one of the best in months. That’s largely continued. Throw in an assist from cheap gas, and it’s no surprise the President Obama felt safe bragging about the ecomony in last week’s State of the Union.

In short, many Americans are beginning to feel like things are normal again. That’s usually the signal for the Federal Reserve to return interest rates to a more regular footing. Raising rates can slow economic growth — that’s why the Fed doesn’t want to move to soon. But keeping them low can stoke inflation. At 1.6%, well below the Fed’s 2% target, that’s not an immediate problem. The worry is that once inflation starts to rise, it can quickly get out of control.

The Fed’s decision is so tough this time around because it took such extraordinary measures to prop up the economy in the wake of the Great Recession. While so far the Fed’s strategy seems to have worked, no one likes being uncharted territory. Fed officials may feel some pressure to return monetary policy to something that feels normal.

One big problem, however, is that even as the U.S. economy has improved, much of the rest of the world continues to lag. Last week struggles in Europe prompted the ECB, Europe’s equivalent of the Fed, to undertake some extraordinary actions of its own, committing to buy tens of billions of dollars in debt each month in a new bid to stimulate the continent’s economy.

With the global economy so intertwined, the Federal Reserve has to worry weakness and instability overseas could put a drag on otherwise healthy U.S. economic expansion. In particular, the ECB’s move, the equivalent of printing billions of Euros, is likely to weaken the common currency against the dollar. That will make it more expensive for U.S. companies to export their goods — ultimately hurting profits and also providing another check on U.S. inflation.

The upshot is that if the Fed was feeling ready to act sooner rather than later, the situation overseas may be giving it second thoughts. Of course, the Fed has given itself until summer to decide. So it’s got some breathing room, if not quite as much as it did in December.

But in the meantime don’t expect jittery traders to sit tight. The Dow dropped 100 points after the Fed’s announcement from 17,452 to 17,319, while Treasury yields fell as bonds rallied. You can expect more of that kind of drama.

TIME Congress

Paul Gets Assist from 2016 Rivals on ‘Audit the Fed’ Bill

Rand Paul speaks at the Wall Street Journal's CEO Council meeting in Washington
Kevin Lamarque—Reuters U.S. Senator Rand Paul speaks during the Wall Street Journal's CEO Council meeting in Washington D.C. on Dec. 2, 2014.

The three Republicans senators potentially running for the White House in 2016 agree on at least one thing: The Federal Reserve should be audited.

Kentucky Sen. Rand Paul re-introduced a bill with Sens. Ted Cruz of Texas and Marco Rubio of Florida on Wednesday to order the nonpartisan Government Accountability Office to review the Fed’s monetary policy decision making and increase congressional oversight.

The bill has a much greater chance of making it to the Senate floor under new Senate Majority Leader Mitch McConnell, who is one of 30 co-sponsors according to Paul’s office. Former Rep. Ron Paul, Rand’s father, pressed lawmakers for years to audit the Federal Reserve and similar bills have passed the Republican-controlled House in the past.

“A complete and thorough audit of the Fed will finally allow the American people to know exactly how their money is being spent by Washington,” said Paul in a statement. “The Fed’s currently operates under a cloak of secrecy and it has gone on for too long. The American people have a right to know what the Federal Reserve is doing with our nation’s money supply. The time to act is now.”

The bill is unlikely to be signed into law by President Obama. In December, Federal Reserve Chairwoman Janet Yellen said that she would “forcefully” oppose such legislation as it would jeopardize the central bank’s independence with “short-run political interference,” according to the Hill.

MONEY Gold

Gold is Back—for Now

150123_INV_GoldisBack
Shannon Stapleton—Reuters/Corbis

Gold is up nearly 10%. But you're better off admiring this glamorous commodity than trying to buy it.

Gold is starting to shine again.

Since the start of the year, the yellow metal is up nearly 10% from $1,184 per ounce to just over $1,300 at Thursday’s close.

What gives? The move is likely one of the ripples markets have been feeling in response to the European Central Bank’s decision to start buying tens of billions of bonds each month in an effort to stimulate the European economy. While the decision was announced Thursday, investors had been anticipating it for weeks.

Unlike another commodity that’s been in the news—oil—gold has little intrinsic industrial value. But since everyone regards it as precious and has for thousands of years, investors often see it as the ultimate safe place to park cash when other markets look iffy.

It should be no surprise the ECB’s recent move fits that bill. The move was generally well received. The U.S. stock market, for instance, rallied more than 200 points on the news. But this kind of bond buying program is still something new. While the Federal Reserve, the U.S. equivalent of the ECB, successfully implemented its own bond buying program several years ago, there’s no guarantee the latest attempt will work, and there are likely to be unpredictable side effects.

We’ve already seen one. Witness last week’s sudden 30% jump of the Swiss franc when the Swiss central page decided to stop fixing the franc’s value in euros. Investors flooded into the currency in part because it’s seen as likely to hold its value, whereas the ECB’s bond buying is actually meant to produce some inflation in the countries that use the euro. (Currently, the chief worry in the eurozone is deflation, or falling prices.)

The upshot is that while investors are cautiously optimistic, some want to hedge their bets, and gold is one way to do that.

Does it make sense for you? Probably not. It has gotten easier in recent years for small investors to hold gold with the advent of gold-oriented exchanged-traded funds like SPDR Gold Shares (GLD). Some financial planners have taken to putting a small portion of their clients’ assets, say 2% to 5%, in such instruments to guard against the kind of volatility we are seeing right now.

But if gold’s uncertainty-driven rallies can be dramatic, so can the reversals. In late 2011, when markets were still reeling from the financial crisis, gold traded at more than $1,900 an ounce. The Federal Reserve’s own bond buying program, whose second round had kicked off a year earlier, was a big factor in the run-up. Eventually, however, the economy regained its footing—and the inflation many gold fans feared failed to show up. By 2013 gold was back down about where it is today.

And remember, unlike stocks, which represent a share of a company’s profits, or bonds which pay interest, gold doesn’t produce any future wealth, which makes it hard to say what a fair value for it would be. Its jumps in price generally reflect changes in politics and market psychology, which are hard to predict. In the long run, gold isn’t likely to do more than keep up with inflation. Add in trading and investment management costs and most long-term investors are better off just riding out the market’s ups and downs.

MONEY europe

Europe’s Version of the Fed Announces a Big New Stimulus Plan

The symbol of the Euro, the currency of the Eurozone, stands illuminated on January 21, 2015 in Frankfurt, Germany.
Hannelore Foerster—Getty Images The symbol of the euro, the currency of the eurozone, outside the European Central Bank in Frankfurt, Germany.

The European Central Bank just took on its own version of "quantitative easing." Get ready to feel the ripples.

On Thursday European Central Bank president Mario Draghi announced plans to implement a bond buying strategy known as quantitative easing. The ECB, which is the European equivalent of the U.S. Federal Reserve, is hoping to boost the struggling European economy. The Fed implemented a similar effort several years ago.

Under QE, the European bank will buy up tens of billions of euros worth of bonds each month. That should help keep interest rates low and help stave off a worrying trend of falling prices, or deflation.

With the U.S. economy finally humming along, you may be tempted to shrug off the news. But changes in interest rates and prices across the Atlantic quickly ripple across the globe. Here’s how the move could affect you.

It may hold down interest rates and bond yields.

Ever since the Fed cut key interest rates in the wake of the U.S. financial crisis, bond yields have been unusually low. Although many forecasters expect the Fed to begin raising rates in 2015, the ECB’s latest move could keep a lid on how far yields on Treasuries rise.

European bonds already yield considerably less than Treasuries—German government bonds maturing in 10 years pay 0.4%, compared to about 1.9% for Treasuries. If QE continues to depress European yields, more and more buyers are likely to seek out Treasuries, pushing Treasury prices upwards. Bond yields fall when prices rise.

Continued low rates would be good news for borrowers but a mixed bag for investors. Although bonds would lose value when rates begin to rise, many income oriented investors and saver have been frustrated by low payouts, forcing them to hunt for riskier alternatives.

It could further strengthen the dollar.

By buying up bonds, the ECB is essentially creating more euros. On Thursday, the value of the euro fell to $1.16, according to Blommberg. That’s its lowest level in more than a decade. In the long run that should help European companies by making it cheaper for U.S. consumers to buy their goods. But if you own foreign stocks, you’re likely to feel some pain, at least in the short run.

The European stocks you own are denominated in euros, but the value of your account is denominated in dollars. As the dollar rises, a European stock simply isn’t worth as many dollars as it was before, assuming its price in euros didn’t change. The good news is, you don’t need to worry unless you plan to sell right away. In the long run, such currency fluctuations should even out.

The U.S. stock market is happy—for now.

The Dow climbed about 117 points, or 0.7%, to 17,671 in morning trading. While it’s always tricky to interpret stock market ups and downs, it seems likely investors are applauding the ECB’s aggressive action to prevent a deep recession, just as they did over the past several years when the Federal Reserve made similar moves. With the U.S. economy finally humming, the Fed’s strategy seems to have worked. Ultimately the best thing for stock values is to get Europe, a major driver of global growth, back on the same path.

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