As stock market investors eyed the Ides of March, nervousness over potential increases in interest rates later this year was evidenced in market volatility

As stock market investors eyed the Ides of March, nervousness over potential increases in interest rates later this year was evidenced in market volatility. The Federal Reserve Bank has ended Quantitative Easing (easy money) and last December Fed Chairwoman Janet Yellen said that our central bank would “wait patiently for the right time” to raise interest rates from historical lows.

Prognosticators speculate that the Fed will drop references to “patience.” U.S. job growth has picked up and American inflation remains low (falling oil prices are helping). However, growth overseas is sluggish, and the strengthening dollar makes U.S. goods and services less competitive globally. Given the mixed bag of yin and yang, forecasts for interest rates are cloudy, with varying opinions. What does this mean to you as an investor or borrower? What drives interest rates?

Home equity lines of credit, credit card rates, auto and other personal loans are indexed to the prime rate as reported by The Wall Street Journal. The prime rate, currently 3.25%, in turn is influenced by the federal funds rate set by the Federal Reserve Bank.

The federal funds rate is the primary tool used by the Federal Open Market Committee to influence interest rates and the economy. These rates impact the costs to banks in the overnight lending market and govern yields on CDs, savings and money market accounts. After the credit crunch meltdown of 2008, the fed funds rate went to near zero and still is within a target rate of 0-0.25%, currently 0.25% (twenty-five basis points or one-quarter of one percent). Consequently, risk averse savers garner paltry yields on guaranteed savings.

Conversely, borrowers with good credit still may take advantage of cheap money. A 15-year fixed rate mortgage is 3.00%; 30-year fixed, 3.625% (bankrate.com).

The rate paid by Uncle Sam to borrow money helps drive bond market yields. On March 13 the benchmark 10-year Treasury note yield was 2.110%. Since bond values rise when interest rates fall, and bond values fall when rates rise, the bond vigilantes watch the Treasury yield curve closely. Since interest rates are more likely to rise than fall, bond investors are antsy.

Kiplinger sees the Fed hiking short-term interest rates by one-quarter of one percent at some point between June and September, with another quarter point jump by year end. Says Kiplinger, the federal funds target rate could move to 0.75% from 0.25% now, and the prime rate to 3.75% versus 3.25% presently.

Interest rates will remain accommodative. The euro dropped to $1.0497 on March 13 and most likely is headed for parity to the dollar. The strong dollar is attracting overseas money, which in turn holds down interest rates and restrains the Fed. The ever stronger dollar hampers exporters and worries Wall Street. Kiplinger sees 10-year Treasuries at 2.5% by yearend, versus 2.1% presently; 30-year mortgages at 4.2%. These remain tame numbers compared to long term historical averages.

Fed Chair Yellen has been criticized by some for keeping interest rates too low, too long, and she may want to show she is getting ahead of the game as the U.S. economy improves. Investors may come to see small increases in rates as “confidence” in the economic outlook. The Fed will not push rates too high while most other countries are cutting interest rates.

Despite forecasts of increased volatility, the U.S. stock market continues to attract global money. The rise in the S&P 500 index priced in euros has been spectacular. Overseas investors holding dollar denominated investments have looked brightly prescient!

Lower crude oil prices are offsetting the end of U.S. quantitative easing simulative measures that helped to buoy stock prices. Airlines, transportation companies, energy-intensive manufacturers, farmers, and consumers all are benefiting from lower energy costs. Food production, harvesting, and transportation is very fuel dependent and lower food costs will enable consumers to spend more elsewhere. As business picks up, there will be more demand for workers with specific skills, boosting wages. The unskilled will be left behind but that could spur demand for education and training services.

In short, interest rate fears are overdone. Lower oil prices will offset any increase in borrowing costs and savers will welcome increased income. Consumer-related sectors could see a shot in the arm—shopping, dining, retail, travel and hospitality, anyone who ships anything.

If you are planning a trip to Europe, Canada or other international hot spots...get out there! Your dollar buys more but airlines have cut seat availability and are holding the line on fares. Book early!

Lewis Walker is President of Walker Capital Management, LLC. Certain advisory services offered through The Strategic Financial Alliance, Inc. (SFA). Lewis Walker is a registered representative of SFA which is otherwise unaffiliated with Walker Capital Management, LLC. lewisw@theinvestmentcoach.com