Fed leaves rates alone — here are your best moves now

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June 28, 2000 —
Federal Reserve Board left interest rates unchanged at the conclusion of its two-day meeting Wednesday.

Nevertheless, most Fed-watchers think the game isn’t over yet and that more rate increases await consumers later this year. The Federal Open Market Committee next meets Aug. 22.

In the meantime, here are some common financial products and strategies for using them wisely in light of the rate-hiking lull.

Fixed-rate mortgages:
If you’ve been shopping for a loan the past couple months, you already know that mortgage lenders get spooked well before Greenspan actually plies his trade. Rates climbed consistently earlier this spring in fear of the chairman’s wrath, then declined for a while after the big fifty basis point hike struck May 16.

From here, there isn’t likely to be much good or bad news on the horizon, at least for a while. Signs of a temporary slowdown in U.S. economic growth helped rates slip from recent highs, but that decline is likely all consumers will see early this summer because inflation looks like it will get worse in the not-too-distant future.

Best move now: If you plan to close soon, go ahead and lock in. The market has given you a break so you might as well take advantage of it. If this isn’t a real economic slowdown — and experts doubt it is — higher rates could be in store for buyers who wait until late summer to lock.

Here’s some other advice: Know what you can afford in a home and a loan, and don’t take a deal that won’t work for your budget. Think about avoiding points at this stage in the game. With rates near multi-year highs, there’s a good chance you’ll be able to refinance down the road. It doesn’t make sense to spend the extra money on points if you can get a lower rate without paying them at all a year or two later. When you’re ready to buy, try the Bankrate.com mortgage search engine to locate the best deal.

Adjustable-rate mortgages:
About a fifth of today’s home buyers are using these loans, and for good reason. They have rates that are anywhere from 1 percentage point to 1.5 percentage points lower than the rates on fixed-rate mortgages. That rate bonus allows consumers to blunt some of the effect of Greenspan’s machinations.

Yet the ARM strategy is only good for a short period. These loans are called adjustable for a reason and their rates will rise with overall interest rates after a specified introductory period, though most provide “caps” that limit how high they can go. Some hybrid ARMs are also available, such as 5/1 and 7/1 ARMs, which offer five or seven years of fixed rates, then adjust annually in each succeeding year.

Best move now: ARMs become a smart choice for homeowners who need lower payments now, but think they’ll be able to handle higher payments later. This includes young or first-time buyers who expect their incomes to rise over time.

If you opt for an ARM, find one with a rate that will stay put long enough to cover you until you move. Hang on to some of that cash left over from the lower payments too. If you don’t move and interest rates really take off, you’ll need enough money to refinance into a fixed-rate loan. Keep in mind that short-term ARMs — especially those that adjust in as little as a year or six months — could be dangerous right now. That’s because it may take at least that long for the Fed to tame inflation and market rates could be higher at the adjustment date then than they are now.

Credit cards
: Experts say about 70 percent of all credit cards are variable-rate cards and most of those are linked to The Wall Street Journal prime rate, which usually rises the day after a Fed hike. Because of this, people with variable-rate credit cards see their interest rates increase very quickly by the same amount as any increase.

So does the Fed’s inaction mean your rate will stay stable this summer? Maybe, but remember that some lenders take longer than others to adjust their rates. Many haven’t priced in the big May interest rate hike yet, so your rate could go up even though the Fed stayed on the sidelines this time around.

Best move now: For those carrying a balance on a variable-rate credit card, it might be a good time to pay down that debt before you end up paying more for the privilege. Also, consider transferring any balance to a lower-rate credit card, ideally, one with a fixed-rate. They’re getting harder to find, but you can sort among the ones left by hitting up the Bankrate.com credit card search engine. A standard fixed-rate card averaged 16.12 percent on June 28, while a variable card averaged 17.08 percent.

Car loans:
Bankrate.com research shows that interest rates on new car loans tend to shift in lock step with the prime rate. If the prime rate increases by 25 basis points or 50 basis points in the next few months, expect rates on auto loans from financial institutions to follow suit almost immediately. Used car rates increase with the prime rate too, just a little more slowly.

Still, not all car loans are tied to the prime rate. With interest rates expected to rise later in this summer of ’00, the super-low financing deals available now from captive finance companies of auto manufacturers such as Ford Motor Credit and General Motors Acceptance Corp. will look even better.

Best move now: If you’re arranging financing for a new car, don’t ignore dealer financing. If you’re looking for a used car, you might want to go ahead and lock in a loan now before the Fed gets another chance to raise rates.

Home equity loans:
Home equity rates tend to follow the prime rate. Because there was no hike this time, rates on these loans should remain relatively stable for the first part of the summer. Equity loan rates averaged 9.63 percent on June 28.

Best move now: Shop carefully because rates are already much higher than they were a year and a half ago. If you have to borrow, take advantage of the break in the recent string of rate increases to lock in the best loan available. Look for specials and deals that may cut closing costs because lenders have been trying anything they can to keep business humming even though rates have climbed.

Home equity lines of credit:
Most new and existing line of credit customers will get a break because rates remained stable this month. But some existing customers are just now feeling the impact of the Fed’s 50 basis point hike in May because it takes time for lenders to reprice their loans. The average rate on a line of credit was 8.69 percent on June 28.

Best move now: If it’s variable, it will head higher if the Fed raises rates later this summer. Consider taking advantage of the current lull to pay down outstanding balances. If your lender offer what’s called a fixed-rate option, you might want to consider exercising it too. The option lets borrowers lock in the rate and payments on a portion of their line of credit balances. If you really need cash, consider a 401(k) loan instead of a home equity line — or stop and ask whether you have to have the money at all.
CDs, savings accounts, money market funds: Rates on savings products have already increased because of past Fed hikes. Since the Fed took a break in June, CD rates have leveled off and, in a few cases, even come down a bit.

Best move now: Shop around. Bankrate.com offers a
search engine to help you find the best CD rates. Don’t get tricked into panic-buying a CD because the Fed didn’t raise rates either. If rates climb later this year, today’s “high” rate may be tomorrow’s low one. Consider rolling over any CDs you have maturing soon into the shortest-term CD you can find. That way, you can look at the rates later to take advantage of any increase between now and then.