NYT on Downside of Falling Rates
Sunday's New York Times featured a piece titled, "The Downside of Falling Interest Rates," which comments, "With the Federal Reserve expected to cut short-term interest rates later this month, investors face some tricky choices. While falling rates are usually viewed as a boon for the stock market, that's not the case for all parts of the investment universe. In fact, for money you may need soon, where safety is a major priority, falling interest rates aren't great news at all. Whenever short-term rate cuts start -- and that could be as soon as the Federal Reserve's next policymaking meeting on Sept. 17-18 -- the fabulous 5 percent-plus money market yields of the last couple of years will begin to decline. Faced with the prospect of less lucrative payments from money market funds, Treasury bills, certificates of deposits and the like, you may be tempted to take on greater risks in longer-term bonds or stocks." The article says quotes, "Richard H. Thaler, the Nobel-laureate behavioral economist, says many of us engage in what he calls 'mental accounting' -- a tendency to put money into different boxes or buckets, depending on its intended use or source. I know this is true for me. For the money I believe I may need for my family in the next few years, I'm extremely conservative. On the other hand, for money that I think of as 'long-term investing,' I emphasize stocks, and I'm comfortable with taking risks and withstanding losses. However you analyze your own holdings, it's important to know the point of your investing. This may seem obvious: You always want to make money with your money; you don't intend to lose any of it. But separating your portfolio into buckets may be useful when thinking about interest rates because falling rates affect the individual buckets quite differently." The Times tells us, "You may have the urge to shift money from an asset class that will be hurt by declining rates -- money market funds, for example -- into one that is likely to be helped by a rate cut, like the stock market. But I wouldn't make a change like that without a great deal of thought, if the money in the safe bucket was in the right place to start with. Stocks are so much riskier than money market funds that switching from one to the other is like changing your Sunday plans from walking in the park to climbing a steep mountain. If you're not prepared, you're asking for trouble." The article adds, "There's no doubt that lower rates will make it harder to do well financially while parking your money in a safe place. For investments typically considered 'cash' -- money market funds, Treasury bills and the like -- the effect of lower rates is negative. We just don't know how negative because it's not clear how low rates will go or how long it will take to get there. But what is certain is that with a slight lag, the short-term interest rates you can earn as an investor follow the lead of the Federal Reserve. So if the Fed cuts rates, you will receive less money in yield fairly quickly for money market funds.... If you stick with these kinds of short-term investments, you will just have to live with lower rates."
