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President Trump's proposal to reduce interest rates to zero or less could have unpleasant effects for people nearing retirement or about to retire.
Negative interest rates have a wrenching impact on cash flow. Banks are already offering consumers a relatively low interest rate in exchange for putting their money into a savings account, and the interest they incur on their savings would only go down if rates were reduced. Interest rates also affect the price and valuation of bonds, which would naturally affect retiree portfolios and the amount of withdrawals that can be withdrawn by retirees on a monthly basis.
Nevertheless, the president suggested Wednesday on Twitter that the Federal Reserve should not only lower interest rates, but reduce them to zero or less. "The United States should always pay the lowest rate. No inflation! "It is only the naivety of Jay Powell and the Federal Reserve that does not allow us to do what other countries are already doing. A unique opportunity in life that we miss because of "Boneheads".
See: A Danish bank offers mortgage loans with negative interest rates: why not want this to happen in the United States?
Some parts of the world maintain negative rates, including Japan and Europe, but they do so to stimulate the economy and make exports attractive. Critics believe that lowering interest rates to zero or less, which usually indicates that a potential recession is imminent, would be detrimental to the United States. Carl Weinberg, chief economist at High Frequency Economics, said that a 10-year government rating with negative interest rates would be worth less than a "bag of soil stored in your basement ". He also stated that a negative rate would send a message that the money has lost value.
The Federal Reserve should cut interest rates, but only about a quarter of a percentage point, to 1.75% or 2%.
At present, the financial sector is experiencing a "reverse yield curve", in which short-term bonds have higher returns than their long-term counterparts. The reason: People are worried about an impending recession and want to invest in a safer investment, said Mike Alves, vice president of financial planning at Marquez Private Wealth in Pasadena, California.
Lily: 5 Things Investors Need to Know About a Reverse Yield Curve
Interest rates and bond prices have an inverse relationship, which means that reducing rates to zero or less would make bonds more expensive. In other words, people would pay a premium to invest in a fixed income product. Nevertheless, many investors are willing to pay this additional cost, as the possibility of generating a return of 1 to 2% is preferable to the loss of 10% of the balance of your portfolio because of the plummeting stock, said Alves.
But investors should not deviate from their asset allocation formulas. Young savers should still keep the majority of their pension portfolio in equities, while older workers should continue to invest in bonds. And while long-term bonds are less lucrative than short-term bonds, the portion of fixed-income portfolios should always be diversified, Alves said.
Look also: 5 worried questions that Americans will ask during the Dow's mad race
Those who have a lot of money in their portfolios can, however, consider other solutions. "Especially if you are at the start of your retirement savings business, cash is probably not what you want," said Chris Horymski, Senior Research Analyst at Magnify Money, a research and development site. personal finance in the LendingTree loan market. Young investors are generally advised to remain loyal to their asset allocation, even in times of market volatility.
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. (Near-retirees may want to consult their financial advisor, or their 401 (k) provider, to find out if they are properly diversified, sometimes people are too invested in stocks and can lose a lot of their capital, their balance to a few years of retirement.)
With regard to bond-based retirement income, current retirees should be staggering their investments.
John Scherer, founder of Trinity Financial Planning in Middleton, Wisconsin, said he used CDs and stripped Treasurys to cover his clients' retirement income needs, which protects against deflation, but also increases in value if interest rates fall. If a customer needs a specific amount every year, say $ 75,000 a year, he advises them to buy a Treasury trip of such maturity for each of the following years. "The worst case, it provides guaranteed cash flow for the exact years planned," he said.
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