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Here are some of the ways that rising rates might affect the different aspects of your financial planning:
Savings
You may have had communications from your bank in recent months advising you of increases in your savings account rate. You might have had multiple letters, as the base rate has been raised so many times.
At the time of writing, the best easy-access ISA cash account pays 3.85% and the best one-year and two-year ISA rates are 4.96% and 5.1% respectively.[i] The role of cash in a financial plan has certainly changed over recent months after years of offering very little value. Although the rates available are still well below headline inflation rates, there could be opportunities to lock in for longer for risk-averse clients, on the assumption that the long-term direction for interest rates is downwards.
Furthermore, for clients who need to hold cash, the improved rate of return can only be a good thing. One thing to bear in mind is overexposure to individual institutions, above the £85,000 Financial Services Compensation Scheme limit.
Wren Sterling can help in this situation because the platforms we use can spread your cash over multiple institutions and it’s then simple to move to investments when the time is right, so speak to your financial planner if you are interested in this.
Mortgages
Mortgages have been hogging the headlines of late, as they so often do, as they are more emotive than other products (think “families struggling to keep a roof above their heads”). Right now, the average two-year fixed rate is over 6%, causing mortgage repayments as a proportion of household income to rise above 20% for the first time since 2009.
One part of the market where the impact might be felt keenly is interest-only mortgages on prime property. An article in the Sunday Times on 18th June quoted London Money, a mortgage broker, who said payments were up an average of 200% for clients whose interest-only fixes had ended this year.
If you rent your property, you could expect a rent rise as landlords pass on the rising cost of their borrowing, which will be an unwelcome consequence of the rise in rates.
Further rises in the Bank of England base rate are forecasted and with lenders fighting not to be the cheapest option on the market, we are stuck in a cycle of rates climbing rapidly. It seems like only a gradual reduction in inflation will give the Bank of England the data it needs to reduce rates again and take some heat out of the market.
Life insurance
If you have level-term life insurance, rising inflation will eat into the real value of any payment that your dependents could receive. If you have an increasing term policy because you were concerned about inflation when you took it out, you can look back on a decision well-made.
However, regardless of how your policy is structured, if you have had your policy for a little while, it is unlikely that you factored in double-digit inflation when it was arranged. A review of your policy now will show you whether you still have the right policy for your current and future circumstances.
Investments
Rising interest rates are likely to cause corporate debt to increase, impacting their ability to grow and pay dividends. That’s a broad statement though and certain sectors will thrive in a slower environment, which is why a diversified portfolio is so important.
It’s also important to hold your nerve if you are invested and you start to see headlines about slowing economies and recessions.
A high-interest rate environment might make it tougher for equities and make savings accounts look attractive in the short term. However, those with a long-term focus could see opportunities to buy undervalued stocks, as companies are hit with short-term headwinds. The long-term efficiency of markets has been proven time and again and when others look to move to cash, they will have to buy back in at another point and as the overall trend of markets is upwards, this is likely to be for a higher price.
As is often quoted, it’s time IN the market, rather than TIMING the market that’s where the real value can be found in investments.
Pensions
Rising interest rates could represent an ideal time to buy an annuity – if that’s what you want to do. The trend these days is generally away from committing all of one’s retirement cash to annuities in one go, in part because of times like now.
Flexi-access drawdown allows you to withdraw pension funds when you need them and you might want to buy annuities in tranches, as part of that strategy. However, everyone should get independent advice on their own individual circumstances to determine the most appropriate way forward.
Of course, if you have your pension fund invested in a flexi access drawdown arrangement, it is subject to the same forces impacting investments.
[i] https://www.moneysavingexpert.com/savings/best-cash-isa/ accessed 26.06.23