Interest rates are often called the price of money. When they change, they ripple through the economy and through how investors value every stock. That is why markets watch every Federal Reserve meeting closely.
Who sets rates
The Federal Reserve sets a target for the federal funds rate, the rate banks charge each other overnight. It raises it to cool inflation and lowers it to support growth. Longer-term rates, such as the 10-year Treasury yield and mortgage rates, are set by the market and react to expectations about inflation, growth and Fed policy.
Four ways rates move stocks
- Borrowing costs. Higher rates make loans more expensive for companies and consumers. Spending slows, and so can profits.
- Valuation. A stock’s value reflects future profits discounted back to today. A higher discount rate shrinks the present value of those profits, especially profits far in the future. Fast-growing companies with distant earnings tend to be hit hardest.
- Competition from safer assets. When Treasury bills pay 5%, some investors prefer them to stocks. When cash pays near zero, stocks look more attractive.
- Confidence and expectations. Markets react to surprises: if the Fed raises rates less than expected, stocks can rise even on a “hike” day.
Sectors that react differently
- More sensitive to rising rates: high-growth technology, real estate (REITs), utilities and other dividend payers that compete with bonds, homebuilders.
- Often more resilient or helped: banks and insurers, whose lending margins can widen, at least for a time.
These are tendencies, not rules. 2022 showed the classic pattern: fast rate increases, and both stocks and bonds fell sharply.
Rates and bonds
When rates rise, existing bond prices fall; the longer the bond’s maturity, the bigger the drop. When rates fall, prices rise. See stocks or bonds for the basics.
What should you do?
Very little, if you are a long-term investor. Predicting rate moves is hard even for professionals, and markets usually price in expectations before the news. Practical steps:
- Keep a diversified asset allocation.
- Match bond maturities to when you need money.
- Lock in CD or Treasury yields if they suit a dated goal.
- Stay invested; rate cycles come and go.
The Federal Reserve’s own monetary policy page explains its decisions. Rate changes often follow inflation, covered in how inflation affects your investments, and both shape bull and bear markets. When rate hikes tip the economy into a downturn, see which investments tend to hold up in a recession.
