High interest rates could be the best thing for investors, personal finance enthusiasts, retirees, savers, and those seeking financial independence. You know, most of us.
Even though it was uncomfortable to lose money when the Fed first started hiking rates in 2022, the Fed may have ultimately did us a favor by hiking 11 times so far.
So long as the economy doesn't crash and burn due to overly restrictive interest rates, most of us will be net beneficiaries of higher interest rates.
Let’s go through some positive thinking, especially if you’re frustrated by the current economic situation.
Why High Interest Rates Could Be The Best Thing Ever
Fundamentally speaking, for those with a lot of cash and strong cash flow, higher interest rates are a blessing. For those who are cash poor and have weak cash flow, a higher interest rate environment is suboptimal.
Let's discuss all the people who benefit with the 10-year Treasury bond yield at a 15-year high.
1) Higher interest rates are great for retirees on a fixed income
For retirees who lack side income, higher interest rates lead to higher bond yields, CD interest rates, and savings rates. As a result, retirees get to earn higher risk-free and low-risk income to pay for their rising expenses.
Of course, interest rates don't just rise in a vacuum. Higher interest rates are generally correlated with higher inflation rates. Therefore, even if a retiree earns a higher low-risk income, they might still earn a negative interest rate.
However, psychologically, retirees should feel better because they are earning a higher absolute dollar amount from their fixed-income investments. Eventually, inflation will roll over and there will be a moment in time when retirees are benefitting even more.
For example, as of 2H 2023, inflation is around 3.2% but Treasury bonds of every duration are yielding above 3.2%. Therefore, the retiree would be earning a real interest rate.
See the latest fixed income chart below.
2) Higher interest rates help folks reach financial independence sooner
Thanks to higher interest rates, to stay competitive, many of your existing investments that have an income component have tended to increase as well. As a result, higher interest rates are helping get you to FIRE sooner.
The sooner you get to your target passive income amount, the sooner you can retire and live a life of freedom. There is no better reward than being able to do what you want when you want!
Personally, my passive income got about a 10% boost because the average interest rate earned by my various income-producing investments went from about 3% to 4.85% in just one year. The rate will go higher as my bonds mature and get reinvested.
It's easier to generate more passive income in a high interest rate environment. As a result, it's easier to get to financial independence sooner.
Here is a snapshot of one month's dividend payment for the cash I invested in SPAXX, a Fidelity money market account that yields almost 5%. I never thought we'd be able to earn 5% risk-free with Core CPI below 3.5%.
3) Higher interest rates benefit homebuyers with lots of cash
Thanks to higher mortgage rates, the demand for real estate has declined. As a result, homebuyers with lots of cash no longer have to compete against a lot of other homebuyers.
The bidding wars which lead to 10%, 20%, and sometimes 50% over asking prices were not healthy. They caused many buyers to overpay and many potential buyers to be disappointed.
Homebuyers with a hefty downpayment can now take their time and more easily buy what they want. In addition, sellers who list in a high mortgage rate environment are more likely to cut prices to drive demand. As a result, the cashed-up homebuyers can get better deals in a high-interest rate environment.
Thanks to higher interest rates, the home I wanted to buy in 2022 became available at a 14.4% lower price a year later. Last year, I almost risked a friendship by wanting to borrow money from him.
The home never publicly came on the market again. But by keeping in touch and writing a real estate love letter, I was able to lock down the home with contingencies. I'm thankful higher interest rates have kept the competition at bay. Because as a writer, it's hard to compete against all the techies, entrepreneurs, and finance people in the Bay Area!
4) Higher interest rates enable more existing homeowners and renters to live cheaper
The vast majority of existing homeowners refinanced during the pandemic or have mortgage rates far below existing risk-free interest rates. Meanwhile, roughly 40% of homeowners have no mortgage.
A surge in interest rates means more homeowners are earning a higher risk-free return than the cost of their mortgage, e.g. 2.5% mortgage rate, 5.4% risk-free Treasury bond. As a result more existing homeowners are living for free or are lowering their housing costs.
The same thing goes for renters. Renters can now earn a higher risk-free income to offset their rent. So long as the increase in risk-free income is greater than their rent increase, renters are also winning.
5) Higher interest rates are great for limited partners in funds with lots of cash
If you invest in well-capitalized private funds then you're feeling optimistic about this high interest rate environment.
Your private real estate funds are buying commercial properties at a discount. Or they're lending money to quality developers and sponsors at extraordinary rates (12% – 13%). That's what Ben Miller, CEO of Fundrise said his firm is doing in my one-hour long interview with him.
Your venture capital funds that raised a ton of money can more easily win deals and invest in private companies at steeper discounts. As weaker venture capital funds begin to perform poorly, the best funds take market share.
Your venture debt funds are also stepping in to lend money to quality private companies at higher-than-normal rates as well. Venture debt funds benefit greatly from higher rates.
Once interest rates normalize (head lower), the value of the investments made by private funds tends to go higher. Meanwhile, some private funds will have locked-in long-term loans at higher rates.
6) Higher interest rates earn hard money lenders more money
If you're a hard money lender, then you also get to charge higher-than-normal rates. If you're savvy, you'll try to lend money at longer terms to lock in higher rates for longer near the end of the cycle.
I'm not a fan of hard money lending because I hate it when people default. Not only is there no recourse after a default, relationships can easily get ruined as well. Lending money to friends and family is a dangerous activity.
I'd much rather invest in a venture debt fund or a real estate income fund where I'm removed from the process. It's also better to have collateral to sell when lending money.
7) Higher interest rates provide an opportunity to take market share from debt-laden competitors
There will be a purging of companies that took on too much debt before and during a high-interest rate environment.
For example, a trucking company called Yellow filed for bankruptcy because it couldn't work out a deal with its lenders of $1.2 billion. A compromise also couldn't be made with its truckers union. As a result, competitors will swoop in and buy its trucks and stations for pennies on the dollar.
Every company in every industry that took on too much debt is at risk. For those companies with large balance sheets, it's shopping time.
8) Higher interest rates provide a chance to take care of multiple generations if there is an economic crisis
Finally, let's say another deep recession comes thanks to too-high interest rates. Prices of risk assets will decline, thousands of companies will shut down, and millions will lose their jobs.
Those who are cashed up and able to keep their jobs in an economic crisis can go on the greatest buying spree. Back during the global financial crisis in 2008, many cash-rich investors backed up the truck on stocks and real estate. By 2012, the economy recovered and started surging upward again.
Some of those who bought profited enough to create generational wealth so their children never have to work again. They were rewarded for being disciplined with their finances and taking risks during sketchy times.
Those who overextended themselves and had to sell during the downturn missed out. Those who declared bankruptcy had to wait seven years to be eligible for credit again. By then, asset prices were much higher.
Cynically speaking, the rich Fed Governors are OK with economic destruction because they and their rich friends are able to weather downturns the best. Once the masses are squeezed out of the system, they can then swoop in and purchase valuable assets at discounted prices for their heirs.
And once you get really rich, you and your children get even more privileges as evidenced by the much higher elite college acceptance rates for the top 0.1%.
High Interest Rates Are A Net Positive For Personal Finance Enthusiasts
For those of you who've been reading and listening to Financial Samurai for a while, you should appreciate this high-interest-rate environment. It won't last forever as I think we'll eventually revert to our 40+-year trend of downward-trending interest rates. But we should enjoy it while it lasts!
I'm taking advantage by building a bond portfolio. I had less than 5% of my net worth in bonds before rates shot up. But mostly, I'm taking advantage of higher interest rates by buying a dream home. I never thought I'd be able to afford such a home at this stage in my life.
So long as the economy doesn't replicate a 2008-style crash, high interest rates should be good for most of us. Save on and enjoy your money!
Reader Questions and Suggestions
How are you taking advantage of this higher interest rate environment? What are some of the things you are enjoying today that you weren't enjoying with interest rates were low?
If you're looking to take more risk to earn a higher return, take a look at Fundrise, my favorite private real estate investment platform. Diversify your real estate portfolio and earn more passive income with just a $10 minimum investment.
Real estate is a long-term net beneficiary of inflation. I especially like the Fundrise Income Fund which is lending out money at higher rates to quality developers and sponsors.
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