Retirees and Interest Rates

In our ongoing series of risks faced by retirees, we turn our attention to interest rate risk this time. Interest rate risk affects both the investments and the income of retirees. On the investment side, when interest rates rise, bond prices fall (an inverse relationship). The main concern here is only for retirees who are buying and selling bonds or bond mutual funds. If you’re a “buy and hold” person and you plan to hold a bond until it matures, then this aspect of interest rate risk isn’t much of a concern.

On the other hand, almost all retirees feel changes in interest income. When interest rates rise, interest payments can rise as well. The trick here is knowing which way interest rates will move and for how long. If you own a 5-year CD at today’s rates and interest rates rise next year, you’re stuck (unless you want to take an interest penalty to cash in the CD early). On the other hand, if you own that same 5-year CD and interest rates fall, you locked in a higher income level and made a smart move. But again, the trick is knowing ahead of time which way rates will go and nowadays, when.

If you’re thinking of buying a fixed annuity now to generate retirement income, interest rates are at historically low levels. That means less income throughout the remainder of your life from the annuity. Ideally you want to buy an annuity when interest rates are high, locking in that high level of income for your retirement years. So it may make sense to wait until interest rates rise (assuming they will at some point).

Or if you need some level of fixed income today, you could invest a small portion of your retirement funds in an annuity, and then if/when rates rise, buy another annuity with a higher payout. If nothing else, simply because you grow older each year, any new annuities purchased would give you a higher monthly income.

Another option to consider in a low interest rate environment is a reverse mortgage. Here you want interest rates to be low, just as if you were buying a home with a regular mortgage. Your age and home value have more to do with generating income than today’s low rates. So today a reverse mortgage might be a good alternative to an annuity, at least until interest rates rise. These are just a few ideas you might be able to use to help maximize your retirement readiness.

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About Mike Wilson

Michael L. Wilson, MBA, CFP®, CRC®, is the owner of Integrity Financial Planning. Prior to founding Integrity in 1998, he worked for two years as a faculty member at the College for Financial Planning in Denver, training other financial advisors. Mike has 10 years of experience in the mutual fund industry, having worked with Fidelity Investments and Invesco Mutual Funds. He holds an MBA in Finance from Baylor University. Learn more about his work at www.integrityplanner.com.
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