federal reserve

6 reasons retirees love it when the Federal Reserve raises interest rates

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Savers on fixed income ready for Fed hike
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Savers languish on fixed incomes © Bao Dandan/Xinhua Press/Corbis

Savers on fixed income ready for Fed hike

During her confirmation hearings to head the nation's central bank, Janet Yellen acknowledged something about the Federal Reserve's bargain-basement interest rates.

"I understand savers are hurt by this policy," she told senators.

But the woman who would become the Federal Reserve board chair defended the rock-bottom rates as necessary for getting the economy back to normal. Yellen argued that savers, including retirees on fixed incomes, should want a healthy economy as much as anyone because they may want to work part time in retirement, or they may have children or grandchildren who need jobs.

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Still, millions of Americans who saved diligently over the years have been crying out for relief. Many have found themselves struggling, after years of puny returns.

"Our firm has long been of the belief that artificially low interest rates have punished savers and retirees," says Samuel Scott, president at Sunrise Advisors in Leawood, Kansas.

Here are 6 reasons retirees wish the Fed would push rates higher.

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No. 1: Paltry returns on savings © bikeriderlondon/Shutterstock.com

The promise of better returns on savings

In June 2006, the federal funds rate, the key interest rate that the Fed controls, stood at 5.25%. In September 2007, central bankers began lowering the federal funds rate and continued to do so until it fell to a range of 0%-0.25% in December 2008. It remained there until the Fed raised it a notch, to a range of 0.25%-0.50%, last December.

Rates on certificates of deposit (or CDs), money market accounts and savings also have stayed sunken.

The result has been devastating for retirees counting on safe, fixed returns, says Michael Rubin, founder of Total Candor, a financial planning education firm based in Portsmouth, New Hampshire.

"They're earning a lot less on their savings than any other time in recent history," says Rubin, author of "Beyond Paycheck to Paycheck."

However, even getting a sad-sack 1% return has been preferable for retirees than exposing their savings to higher risk, says Alan Moore, a financial planner and co-founder of XY Planning Network in Bozeman, Montana.

"I look at cash as market insurance," he says. "When the stock market takes a dive, (retirees) don't want to be in the position of having to sell stocks to fund their lifestyle."

No. 2: Low rates on fixed annuities © JL-Pfeifer/Shutterstock.com

Better rates on fixed annuities

Many retirees buy an annuity in hopes of getting a safe stream of income. But low rates have undercut that strategy, Moore says.

"The monthly income a client receives from their fixed annuity is based on interest rates at the time they purchase the annuity," he explains. "With interest rates at all-time lows, annuity payouts are also at all-time lows."

Nathan Kubik, a certified investment management analyst at Carnick & Kubik in Denver, agrees that the current era has been among the worst times to buy an annuity.

"Locking in these historically low rates right now through fixed-rate annuities is the height of folly," Kubik says.

Moore has been urging investors to avoid annuities until rates climb.

"Another option is to buy a smaller annuity today, such as 25% of what (investors) would normally buy," he says.

Doing this several times from different companies over a few years allows you to buy at various interest rates, he says. Plus, buying from separate companies protects you if one of the companies goes bankrupt.

No. 3: Underfunded pension funds © Photosebia/Shutterstock.com

Help for underfunded pension funds

Pension funds have been in big trouble. 93% of corporate defined benefit pensions were underfunded in 2015, according to Wilshire Consulting.

Pension funds must make sure their assets grow at a pace adequate to cover future liabilities. An earlier Wilshire report noted that low interest rates have made that goal difficult to achieve.

"It is putting pressure on the already-weak pension system," Scott says.

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But Rubin says most retirees don't have pensions and have not been affected.

He also believes that current pension recipients have been unlikely to see their payouts cut. Future retirees may not be as lucky, he says.

Moore agrees. "It is hard to know if clients can depend on (pensions) for their retirement income."

Workers who are worried about their company's pension plan must take action now. "They need to save more or work longer, as well as delay Social Security, to maximize the benefit they will receive," Moore says.

No. 4: Costly long-term care premiums © Photographee.eu/Shutterstock.com

Help for costly long-term care premiums

Long-term care insurance covers the cost of a wide range of expensive services you may need in your final years, including nursing care, assisted living and adult day care. This insurance potentially can save you and your family hundreds of thousands of dollars.

But thanks to falling interest rates, long-term care insurance premiums have skyrocketed, says Jesse Slome, executive director of the American Association for Long-Term Care Insurance.

"Lower rates have wreaked havoc on long-term care insurance costs," he says.

As interest rates have fallen, insurers have seen the return on their investments slip. For every 1% decline in rates, insurers have needed to hike premiums by between 10% and 15%, according to Slome.

Consumers may have been tempted to delay buying long-term care insurance while they wait for interest rates to rise. But that strategy has carried risks.

"Twenty-four hours from now, your health can change," Slome says. "Or, you go to the doctor and some condition is diagnosed. Now, you are uninsurable."

No. 5: Making safe havens unsafe © Phovoir/Shutterstock.comm

'Safe havens' become more attractive

Many retirees are risk-averse and prefer to park a good percentage of their cash in "safe havens," such as savings accounts and CDs. Low returns have forced many of these older Americans to wade into the more turbulent waters of the stock market, Scott says.

Other retirees have been buying bonds in the belief they are safer than stocks. That means Fed policy may have fostered a bubble in the bond market that will burst once rates return to normal.

"For 30-plus years, bonds have been safe, and this seems ingrained in the minds of people," Scott says. "But with a rise in rates, these safe assets will lose value."

When interest rates rise, bond prices fall. Investors purchasing new bonds with higher yields will shun existing low-yielding bonds.

Kubik urges investors to consult with a financial adviser and create a plan for dealing with the eventual arrival of higher rates.

"The most important thing investors can do right now is ensure that they are properly positioned for the impending rising interest rate environment," he says.

No. 6: Stoking future inflation © Pincasso/Shutterstock.com

Protection from future inflation

The Fed's policy of keeping rates low has been meant to make borrowing less costly and, thus, stimulate the economy. But all that "cheap money" has come at the risk of potentially setting off inflation somewhere down the road.

A surge in prices would easily overwhelm the returns retirees get from CDs, savings and other fixed-income investments.

An increase by the Fed in its federal funds target rate is the best way to tamp down incipient inflation, says Kubik, the certified investment management analyst in Denver.

Once inflation starts, it can be difficult to stop. In the early 1980s, the Federal Reserve was forced to crank up rates to a high of 20% before it got inflation under control.

Moore has urged investors who fear future price increases to keep some of their bond portfolio in Treasury inflation-protected securities, or TIPS, which increase your principal in tandem with rising inflation.

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