How Interest Rates Really Work Video

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How Interest Rates Really Work

A lot of questions about bonds, interest rate where do we think rate are going to go. And it’s always amazing to made the number of people who do have investment who do thinks about investing or maybe just buy CD’s that don’t know how interest rate work. And so, I thought we just take few minutes to today to talk about how interest rate work and what they do to influence your investments. Starting with the fact that when interests go up when they get high, that’s a great time for savers. And a really lousy time for barrowers if you ever had to go and get a car loan or a mortgage when high interest rates were in place, you know what I am talking about. The flip side of that is low interest rate like we had if the end of the 20th century we have a wonderful time for anybody barrowing which is why so many Americans took on so much debt and it was a crummy time if you were a saver. And wanted CD’s or bonds because the interest rate for just horrible. But you know there is a misconception of who sets interest rates and how we get there. I know you hear on the business news on the business new channels how the federal reserves left interest rates so low. Well the fact of the matter just between you and me, the federal reserved doesn’t have much influence on interest rates at all. Like them in fact, only influence the short term rates and then only those rates between what they charge member banks that have to barrow money from the Federal Reserve. The rest of the interest rate picture is dictated by the trader some wall street not the Federal Reserve and there in lies the problems from most of us. So, if you hear that interest rates are staying steady you might hear at the close of a next morning’s business news they open to the next morning. That entry or the closes the previous day those interest rates on the 30 year bond went up or down. Will how could that be? You said if the Federal Reserve just answered you know just lapse rates alone. Well, this is what happens, traders determined whether they want to buy bonds or sell bonds. And there in is the influence on your interest rates by selling bonds; interest rates go up because the price of the bond comes down. It’s supply and demand even on the bond market. It’s when people want bond, the price goes up but the yell what they’re trying to get in the way of return and the investment goes down because a bond has a fixed life. It could be a 10-year bond, it could be a 20-year bond, and it could be a 30-year bond. So, it’s means that when it comes out at the thousand dollars what say it came out at the thousand dollars paying 5% for 30 years. Well, if interest rates go to 5 ½ percent and your setting with the 30 year bond paying 5% then if you want to get rid of that bond to go get a 5 ½ percent bond you’re are going to have to sell it for less than what is current which you paid for it. Because anybody that wants a bond at this point wants 5 1/2 % so you have to take less money so that they in fact do get 5 ½ % return on there investment. That’s 5% percent that you bought when interest rates go to 4% now you got capital gains on the underlying value of that bond because you’re earning 5% while the rest of the market can only get a 4% rate of return. Other misunderstood part interest rate in there direction is why would the Dolan’s tell me to buy a short or intermediate term bond and not along maturity bond. In other words why you tell me to buy a 5 year note bond or a 10 year bond and not a 30 year bond? Well, I will tell you why it’s the vitality. When a short term bond is sold to someone and interest rates change, there is a less duration in the value and price of that bond because the term is so short. Let me show you what I mean, let’s think of this as maturity. Short term bond and that old long term 30 year bond out here. If I move this up and down, with vitality which end of this gets the most flops up and down. These parts right the long term part. This short term part is too close to my hand, to get much movement. I am sure physics see and you could explain this better than I. But there in lies the reason why we’re not fans of you rushing out to buy that 30 year bond, because if things change and what to sell that bond and rates of gone up your bond value is gone way down. Another way that people get hurt with bond investment is that most people don’t feed comfortable choosing individual bonds so your broker or financial advisor will suggest to you let’s buy a bond mutual fund. Will now you have to contend with do I buy a short term bond fund? An intermediate term bond fund or a long term bond fund, obviously you’re giving paid more out here because you’ve got greater risks going. But if you’re not comfortable with a lot of risks then your better off buying the intermediate term fund or even a short term fund. Feel the protection of your capital, the other point I always like to make out the bond buyers with regards to interest rates and bond mutual fund buyers, if you are a risks adverse investor and you have $50,000 or more to invest in bonds. I urge you not to buy bond mutual fund and once you go very short and rather buy individual fund planning on holding them into maturity. Then, no matter what interest rates do during the term of the bond that you bought. You’re going to get your principle and interest all paid to you on the maturity date, you get all that principle back in exactly what you’ve paid for without taking any risks because assuming of course you buy a high quality bond. Mutual funds of bonds because they are actively manage by portfolio managers tend to trade more like stock mutual funds. Now, if you want to take a little bit extra risks and don’t want bond stocks at all but want to try for some capital appreciation in bonds, then by all means a bond mutual fund will probably serve you quit well. And won’t have to pay too much attention to it over the long whole, but just remember if you’re a safety first investor buying individual funds whenever possible and not bond mutual funds because the interest that interest rate movement could costs you some of your investment. I hope I wasn’t too obtuse and I hope you understand a little bit more how interest rates work.

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A lot of questions about bonds, interest rate where do we think rate are going to go. And it’s always amazing to made the number of people who do have investment who do thinks about investing or maybe just buy CD’s that don’t know how interest rate work. And so, I thought we just take few minutes to today to talk about how interest rate work and what they do to influence your investments. Starting with the fact that when interests go up when they get high, that’s a great time for savers. And a really lousy time for barrowers if you ever had to go and get a car loan or a mortgage when high interest rates were in place, you know what I am talking about.

The flip side of that is low interest rate like we had if the end of the 20th century we have a wonderful time for anybody barrowing which is why so many Americans took on so much debt and it was a crummy time if you were a saver. And wanted CD’s or bonds because the interest rate for just horrible. But you know there is a misconception of who sets interest rates and how we get there. I know you hear on the business news on the business new channels how the federal reserves left interest rates so low. Well the fact of the matter just between you and me, the federal reserved doesn’t have much influence on interest rates at all. Like them in fact, only influence the short term rates and then only those rates between what they charge member banks that have to barrow money from the Federal Reserve.

The rest of the interest rate picture is dictated by the trader some wall street not the Federal Reserve and there in lies the problems from most of us. So, if you hear that interest rates are staying steady you might hear at the close of a next morning’s business news they open to the next morning. That entry or the closes the previous day those interest rates on the 30 year bond went up or down. Will how could that be? You said if the Federal Reserve just answered you know just lapse rates alone. Well, this is what happens, traders determined whether they want to buy bonds or sell bonds. And there in is the influence on your interest rates by selling bonds; interest rates go up because the price of the bond comes down. It’s supply and demand even on the bond market. It’s when people want bond, the price goes up but the yell what they’re trying to get in the way of return and the investment goes down because a bond has a fixed life. It could be a 10-year bond, it could be a 20-year bond, and it could be a 30-year bond. So, it’s means that when it comes out at the thousand dollars what say it came out at the thousand dollars paying 5% for 30 years.

Well, if interest rates go to 5 ½ percent and your setting with the 30 year bond paying 5% then if you want to get rid of that bond to go get a 5 ½ percent bond you’re are going to have to sell it for less than what is current which you paid for it. Because anybody that wants a bond at this point wants 5 1/2 % so you have to take less money so that they in fact do get 5 ½ % return on there investment. That’s 5% percent that you bought when interest rates go to 4% now you got capital gains on the underlying value of that bond because you’re earning 5% while the rest of the market can only get a 4% rate of return. Other misunderstood part interest rate in there direction is why would the Dolan’s tell me to buy a short or intermediate term bond and not along maturity bond. In other words why you tell me to buy a 5 year note bond or a 10 year bond and not a 30 year bond? Well, I will tell you why it’s the vitality. When a short term bond is sold to someone and interest rates change, there is a less duration in the value and price of that bond because the term is so short. Let me show you what I mean, let’s think of this as maturity. Short term bond and that old long term 30 year bond out here. If I move this up and down, with vitality which end of this gets the most flops up and down. These parts right the long term part. This short term part is too close to my hand, to get much movement. I am sure physics see and you could explain this better than I.

But there in lies the reason why we’re not fans of you rushing out to buy that 30 year bond, because if things change and what to sell that bond and rates of gone up your bond value is gone way down. Another way that people get hurt with bond investment is that most people don’t feed comfortable choosing individual bonds so your broker or financial advisor will suggest to you let’s buy a bond mutual fund. Will now you have to contend with do I buy a short term bond fund? An intermediate term bond fund or a long term bond fund, obviously you’re giving paid more out here because you’ve got greater risks going. But if you’re not comfortable with a lot of risks then your better off buying the intermediate term fund or even a short term fund. Feel the protection of your capital, the other point I always like to make out the bond buyers with regards to interest rates and bond mutual fund buyers, if you are a risks adverse investor and you have $50,000 or more to invest in bonds. I urge you not to buy bond mutual fund and once you go very short and rather buy individual fund planning on holding them into maturity. Then, no matter what interest rates do during the term of the bond that you bought. You’re going to get your principle and interest all paid to you on the maturity date, you get all that principle back in exactly what you’ve paid for without taking any risks because assuming of course you buy a high quality bond.

Mutual funds of bonds because they are actively manage by portfolio managers tend to trade more like stock mutual funds. Now, if you want to take a little bit extra risks and don’t want bond stocks at all but want to try for some capital appreciation in bonds, then by all means a bond mutual fund will probably serve you quit well. And won’t have to pay too much attention to it over the long whole, but just remember if you’re a safety first investor buying individual funds whenever possible and not bond mutual funds because the interest that interest rate movement could costs you some of your investment. I hope I wasn’t too obtuse and I hope you understand a little bit more how interest rates work.

Transcription by: Scribe4you Transcription Services