Whether you take out a mortgage, use a credit card or save in your bank account, interest rates play an important role in how much it costs to borrow. In a nutshell, the Federal Reserve sets the federal funds rate, which determines how much banks charge each other for overnight loans. Those rates then influence the charges and payment amounts on consumer debt, including mortgages, auto loans, student loans and credit cards.
When the Fed raises its federal funds rate, it’s meant to slow inflation and encourage consumers to spend less. While raising the rate isn’t a good thing for those with existing debt, it can help prevent a future financial crisis by slowing spending and cooling the economy.
While higher rates make borrowing more expensive, they also provide a healthier return on savings tools like bank accounts. For example, some savings accounts now offer APYs of over 4 percent — a number that would have been unheard of a year ago when rates were near record lows.
Investors can also benefit from the economic health dividend that comes with higher rates by buying stocks of companies that tend to perform well when interest rates rise, including appliance manufacturers such as Whirlpool and retailers like Kohl’s, Costco Wholesale Corp. and Home Depot Inc. In addition, industrial companies such as Johnson&Johnson, Hershey Co. and Caterpillar Corp. may also outperform when the Federal Reserve raises its interest rates.
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