On The Money Puzzle Podcast, we explain the Federal Reserve and how it affects banks and you as a borrower. Established by Congress in 1913, the Federal Reserve System is the central bank of the United States, which provides the nation with a safer, more flexible, and more stable financial system.  Working with a financial advisor can help you be prepared for whatever the economy will throw at you! Join us next week, we post new content every Wednesday!

Speaker 1 [00:00:02] All right. Welcome to the Money Puzzle. I am Brian Ramsay. And you guys are Chris Vaughan.


Speaker 2 [00:00:10] Oh, that’s your name.


Speaker 3 [00:00:10] I forgot. Yeah, that’s. That’s what it was. I am never going to live this.


Speaker 2 [00:00:13] Now it’s Eric Douglas. Of course.


Speaker 1 [00:00:16] You know why we’re giggling is because Mr. Forgot Eric’s name. So it’s pretty.


Speaker 3 [00:00:24] Clear struggle in there for.


Speaker 1 [00:00:25] Us. No, no, no. I love that we are. But it was funny in Hill Hill. Absolutely. Oh, that was lush. Oh, no, I know. Well, anyway, so today we are talking about the Federal Reserve and raising rates. It’s been all the conversation for what, the last two months, probably a month or so.


Speaker 2 [00:00:42] Really even go back to November when they first announced it.


Speaker 1 [00:00:44] Exactly right. Yeah.


Speaker 2 [00:00:45] Raising rates.


Speaker 1 [00:00:46] Yeah. So yeah, exactly. So we’re going to talk about is sort of how the Fed affects rates and how the rising interest rate affects the market. So the two things we’re going to talk about, first and foremost, if you are watching this producer is going to pop our phone number up. If you’re listening, our phone number 5022005210. And as always, if you hear this podcast and you go, Hey, this is a pretty interesting conversation, I’d like to know how this affects my portfolio and what I can do to hedge against the rising interest rates. Come see us. You’ve got the phone number there called Miss Whitney will align you with one of us and you can come in and meet with us multiple out of that case. But all right. So let’s talk about the Federal Reserve to begin with. All right. So listen, so there’s a lot of misunderstanding about how the Federal Reserve works, right? So let’s take 5 seconds to be a little more, 5 seconds, a couple of seconds. Talk about generally how the Federal Reserve actually works, because it also not only do they affect interest rates, but they affect the money supply, but they don’t affect the money supply as in giving money out. They just affect how the flow of money works. Right? So here’s kind of how it works. So the Federal Reserve all day, really. So what they do is they charge a rate to banks. So generally speaking, the numbers are not going to be right. But you’ll get my point. So the banks, when they lend money, I think right across the hall, by the way, when they lend money out, they have to have a certain amount of deposits to support that lift. Right. Okay. And just for easy math, I don’t know what the ratios are, but let’s just say for easy math, they have 10 million in outstanding loans and they have 11 million in deposits. But the bank says for you to be in balance, you have to have 12 million of deposits. So they in theory, at the end of every day, they have to have $1,000,000 in deposits. So they don’t have it because somebody came in, withdrew money out of their account. So what the what the banks do is they go to the Federal Reserve and say, I need $1,000,000 credit account to keep me in balance. Federal Reserve says, that’s fine. We’re going to charge you this rate of interest, which is what we’re all talking about right now. So what happens is the Federal Reserve raises rates while they do that is because they try to get banks to not lend as much. Right. Because banks may say so Chris may come in and say, hey, I want to borrow $1,000,000. And the bank says so. Two things that the banks may say, okay, well, you know, it’s kind of right there on the edge. I may not lend to you. Right. That’s how they that’s because if I then lend $1,000,000, that means I have to go the Federal Reserve and then borrow the money to keep in balance. And then I have to pay that interest. So they may not do that. However, Chris may say I need to borrow $1,000,000 in the bank, says, okay, I have to pay that 3% or whatever the Federal Reserve lending rate is. So therefore, I’m not going to I’m going to charge you six and a half percent for that loan. Chris may say as a business owner, well, that doesn’t make a lot of sense for me to even borrow the money, because I can only make a projected seven, 8% return on this investment that I’m going to make the spread’s not there. So then I’m just not going to borrow the money. Right. That’s kind of how it works. So what happens is the Federal Reserve, they lower the rate. Then all of a sudden, Chris, come in to borrow money from the bank, says, okay, now and borrow money at 3%, I can now make 7% on this project. That makes sense for me to do it. I borrow the money and then I get money into circulation in the economy. Generally speaking, that’s how it works. Now, how do banks react to that? Banks will say, okay, I now have to raise more, you know, pay more for this deposit that I have to get every night. So therefore, all my loans that I make, I have to increase the rate. Right. But also I need to track deposits. Right? I need deposits because I don’t want to pay this crazy loan to the Federal Reserve. So therefore, I’ll make my savings interest more attractive to depositors. Right? Right. So they increase the rate. And that’s also why you’ll see sometimes you drive around town and you’ll see a little thing out front of a bank and they’ll say 3.3% on your deposit. Why do they do that? Because they need to pass.


Speaker 3 [00:04:51] Any of the deposit.


Speaker 1 [00:04:52] They need to part. That’s why you hardly ever see a JPMorgan Chase or a central bank or whatever have that out front because they don’t really need the deposits that bear. But you’ll see smaller institutions. Now that’s kind of generally speaking, that’s how it works. Okay. So now let’s talk about how that translates over to the fixed income world. So entities that go borrow money. Okay. How do those bonds, you know, how do they react when it comes to rising a straight line?


Speaker 2 [00:05:20] Okay.


Speaker 3 [00:05:21] So you look like you’re getting ready.


Speaker 2 [00:05:22] So basically there’s an inverse relationship. So if you’re raising interest rates, you’re basically raising interest rates on is the yield or what you’re paying to a bond holder. And if you are a bond holder, you own debt. So if I am a company, there’s two ways to raise debt. I can issue stock or equity. And I’m giving what say I’m giving you ownership, right? So you own a piece of the company. The other way that I could raise money as a company would be to issue debt, and you would basically become a credit holder. And so I would take your money and then I would pay you back with interest. So when interest rates go up, I have to pay you back with more interest, because in order for me to borrow money, I have to pay more interest out, right? That’s what the banks that’s what the banks are doing, essentially. So what’s happened this year, and it’s been especially prevalent this year because that’s what’s been really, really bad about this year’s market. It’s not so much the equity market that’s been of course, the equity markets not been great. Right. But what’s been really bad about this year or very unique anyway, is that the fixed income side of your portfolios has really fallen almost as much as the equity side. The reason that’s happening is because with interest rates going up so suddenly, what that happens is if the interest rates go up, there’s an inverse relationship to the value or price of a bond. So the price or the value of bonds are going down. At the same time, the interest rates are going up. So you’re seeing just a sudden decrease in the value of all of these bonds that are sitting in all of your portfolio. So everyone talks about the traditional 6040 moderate portfolio. If the 60% stocks portion. Right, that’s going to go up or down. In theory, that 40% is supposed to kind of stay level. And really historically, it’s supposed to get you about, you know, 4 to 5, maybe 6% return. That’s not happening. Bonds, I just listed the number this morning. As a matter of fact, the aggregate the Barclays Aggregate Bond Index is down 10% year to date. That that’s not safe, right. That’s supposed to be the safe haven in your portfolio. And that’s what’s happened in the market in a nutshell. And even to expand upon what you were talking about, the reason why the fact that we didn’t really, really talk about why the Fed’s raising rates so suddenly. Well, what’s happening in the world right now? Inflation. Inflation is horrible. What was the last number? Actually, it just came down like 0.833. Yeah, it came down like 0.2% from April I’m sorry, March five.


Speaker 3 [00:07:43] In March.


Speaker 2 [00:07:44] Yeah. So it’s a three in April. But still, that’s just a horrible, horrible number year over year. Well, the only thing that the Fed can do to fight inflation is to raise interest rates. Because what you were talking about when money is so cheap to access, buy cheap, I mean, when interest rates are so low. And I’ll just use your mortgage as an example when you go to take out a loan on your home or to buy a home if the interest rate is two and a half percent, well, you’re not paying nearly as much interest on that debt. So you’re able to afford more house. So you go out and buy a more expensive house. The more and more that that happens, that drives real estate prices higher and higher, because more and more people are able to borrow more debt to finance a larger investment.


Speaker 3 [00:08:29] And the case in point of how that has happened is the bidding wars that you’ve had on real estate all over the country the last couple of years. Really?


Speaker 2 [00:08:36] Yeah. And so the way that you can fight inflation and I’m just using the real estate example, you know, real estate as an example, but you fight inflation by raising interest rates. So debt isn’t as easy to obtain. Right. So that means you borrow essentially less money, which in turn over time is going to eventually bring prices down a little bit lower. The same thing works in the business world. If you are a company financing your growth, you once again financed growth through stocks or issuing bonds, issuing debt or taking on debt to grow your company. So I’d take on a loan if I can take on a loan at two or 3% to finance growth in my company, I’m paying a really low amount of money in interest to a bank every month. Well, if I have to raise my interest payment. You use that example earlier if I’m having to pay 6%, but I’m only going to yield maybe a seven or 8% return on my investment with what I’m doing with that money. Maybe I’m going to think a little bit longer about whether or not I should take out that debt.


Speaker 3 [00:09:31] I want to go a little bit deeper talking about the inverse relationship between rising interest rates and the value of bonds. So we’re talking about the, you know, the income portion of our portfolio. I think this is where a lot of people get lost. They don’t understand why that works. Yeah. And just to kind of give an example of if you think about it, if I own a bond and let’s just say that bond is paying, remember, I own another company’s debt. That bond is paying me two and a half percent. Right. So I’m. Getting that two and a half percent interest payment off of that. But just like with mortgages, you can buy and sell that bond. So now new bonds that are coming out because the interest rate went up there, say paying three and a half percent. Well, my two and a half is not as attractive as three and a half. I can get on a new one, which means I’m less interested in holding it, but I’m also going to have trouble selling it. Why would either one of you all buy my two and a half percent bond when you can get a three and a half percent bond for the same price? Which is why you’re getting this this inverted.


Speaker 2 [00:10:35] So so essentially, if I wanted to buy that two and a half percent bond from you, I’m going to pay you less, much less money.


Speaker 3 [00:10:41] I’m going to sell it on the cheap.


Speaker 2 [00:10:42] So when I talk about the value, that’s where I mean, the value of that bond is decreasing because it’s paying out less money now. It’s not as value.


Speaker 3 [00:10:48] That’s exactly right. And that’s the reason why when interest rates from the Fed go up, when that discount rate goes up, the bond markets go down. And back to your point, when when equities are falling, usually the one of the safe havens would be the income market, the bond market. But they’re falling at almost the same rate right now, which is it’s bad. Yeah. That’s the reason people are feeling so much pain.


Speaker 1 [00:11:10] Yeah, it’s tough. And I will tell you that, you know, we’ve had a lot of clients that have come in, you know, one from our TV show that we have, which comes on every Saturday morning at 1030 on the ABC affiliate here in Louisville. I plug, by the way. Yeah, yeah. And it’s yeah, it’s also on our website, it’s also on YouTube. So if you if you’re not local, you can certainly look it up. And we know there’s folks throughout town watching that because we we hear we hear from you guys. So I appreciate the feedback, but we’ve had a lot of folks over the last several weeks that have walked in the door that have said what what is going on in my portfolio. Right. I don’t I’m losing money like crazy. In all reality. It’s just a temporary feeling because the markets have dropped off. But, you know, we got portfolios down six, seven, 8%. People think the world falling apart. But but it’s tough when you open up your statement. And that’s what that’s what’s driving them in here, right? They open up their steam. They’re like, oh, my gosh, what am I doing? What’s happening? And so they come in and they say, Hey, can you do a full review? And we look at it and we just explain to them exactly we explain to you right now it’s the fixed income portion of your portfolio that’s really kind of getting beat up right now. So again, it know, we I tell you that because, you know, if you want to be one of these folks who does walk in the door and say, hey, what’s going on? Or I just want a second opinion, maybe you work with another advisor who’s like, Hey, I just want a second opinion. By all means, come see us. We had wittily that last week that actually works with an advisor that’s our TV show and said, Hey, I want to come in and and do a review. So she came in and she was very upfront and said, I already work with an advisor and we’re like, That’s fine. So we did. We, we actually.


Speaker 2 [00:12:44] In fairness, most of the people that walk in the door.


Speaker 3 [00:12:46] Already do.


Speaker 1 [00:12:47] Yeah, that looks right. That is very true. Although we had the one guy that did.


Speaker 2 [00:12:50] Every now and.


Speaker 1 [00:12:51] Then, you folks, but she came in, she’s like, Hey, you know, I do work with somebody, you know, and I’ve been with the guy for a long time, but I really I just want a second opinion, right? And so we did a full portfolio analysis and a fee analysis and we showed her, Hey, this is what’s going on. We didn’t say anything critical about it. Right? We just said this is what’s going on and just the facts. Yep. And she said, well, how do you guys do things? And we’re like, well, here’s here’s our existing portfolio. It’s a portfolio that we have managed for a number of years with existing clients. And it was if there was a significant difference, I’d say it was a dramatic, but it was a significant difference. And, you know, we just showed her the cost comparison and she wound up saying, hey, I’m entered into a business with you guys. So if you’re one of those folks that say, hey, you know, I’d just like a review, come and see us, we can do the exact same thing. We didn’t we didn’t charge or anything and we weren’t pushy or anything. We just said, Hey, we just do the analysis and give you the information. And and so if you find yourself in that position, by all means, come and see us and we’ll do the same for you. So any last final thought.


Speaker 3 [00:13:50] That was going to throw another section in this maybe a little bit too much, but when we talk about probably markets are going down because.


Speaker 1 [00:13:56] That’s how you.


Speaker 3 [00:13:57] Are. That’s what I do.


Speaker 1 [00:13:57] Yeah.


Speaker 3 [00:13:59] You know, the income portion is going down and what are some of the options that people have? What can they do instead of that? Historically, this is where people start talking about commodities, gold, silver or things like that. You know, some of the other things we’ve had this discussion recently is utilities are what’s called a defensive holding. You know, when the markets go down, people usually do still keep their air conditioning and their heating running. They still keep the lights turned on. So the utility companies are usually a little bit more stable. Those are just some of the things if you all wanted to go a little bit further into that, we can some of the things that you can do when that fixed income space is not the safe haven that you’re expecting.


Speaker 2 [00:14:42] Yeah. So that’s where the planning comes into play. All right. And and so I think one of the reasons I’ve been very, very, very pleasantly surprised with how few clients have really had any clients of ours. Any way I’ve really had any issues is because we’ve done so much education on the front end, right, to talk about this. This is what’s happening. This is what. Could happen, but we’re putting them in portfolios that are catered to their risk profile. So we’re not taking on any additional risk that they’re not really comfortable with. Do we like the fact that the fixed income environment or the bond funds are doing as poorly as they are this year? No, but they’re not doing well anywhere else. I mean, this is the problem industry wide. All that to say, you know, yeah, we’ve we’ve done some things within our portfolio. I think it’s fair to say if you are working with someone, you should make sure you’re going to them and having discussions around what exactly are they doing to hedge against inflation? What are they doing in light of the Fed raising interest rates? And and how are they navigating this? Really, it’s a historical era, to be perfectly frank. And this is the worst. I saw a stat the first quarter of 2022 was the worst start to a year that fixed income has ever had. So this really is, you know, something new that we’re all navigating. But it’s definitely something that you want to make sure if you do work with someone already, make sure you ask them what they are doing to address it or how they’re going to address it in the future. All that to be said, you don’t want to overreact either. You know, we’ve done some things in our portfolios, but we haven’t moved completely away from bonds. They will rebound. There’s maybe some potential signs that that’s starting to happen to some degree. So you don’t want to overreact on one end or the other. We always want to think as logically and rationally as we possibly can and try to remove emotion away from it. I know when clients come in these, you know, it’s their money. It’s a very emotional. It’s emotional. It’s very, very emotional. And we certainly respect that. But we try to be as rational as possible when we’re putting together portfolios and discussing and walking clients through the financial planning process.


Speaker 1 [00:16:44] Yes. On a totally, totally sad note, I’ve been completely distracted. Right outside this window there is a walkway across the little street that’s right in front of our road. And it’s it’s it’s yellow at off, meaning that it’s like painted to show you that it’s a walkway, but not that many people. So there’s a little bit of a hump in there. And this just came flying down through there and hit that hump. I’m sure he’s like, in the world, what in the world was that hump there? But I saw as I saw the car kind of bounce and I thought, well, yeah, I had no idea that was a hump.


Speaker 3 [00:17:14] In the road. I’m on a squirrel.


Speaker 1 [00:17:16] Having a squirrel over there. That was hilarious.


Speaker 2 [00:17:19] Thanks for paying attention to him. Yeah, he can’t remember my name. And you.


Speaker 1 [00:17:22] You can’t pay attention to him, so. Oh, I know. Well, it’s it’s interesting. It makes.


Speaker 3 [00:17:27] You feel it.


Speaker 2 [00:17:27] Then. Nothing. Nothing to love in this office anyway.


Speaker 1 [00:17:31] All right. So we’ll wrap that up for the day. Just make sure that you tune in every week, make sure you like and subscribe. Now, like Eric kind of send us off in a second, but just know that we do have other podcasts. We have a TV show that comes on every Saturday morning, 1030 on our ABC affiliate. So you can catch that at our website or online at YouTube. Just search the money puzzle, you’ll see it. And we also have another podcast we’re getting ready to do here in just a few minutes called Burgers and Bourbon, which we’re trying to rename. But basically we Taste of Bourbon. It’s basically just a way we can end up Friday afternoon is to sit around, drink bourbon in the office. Not a lot of it, but we do taste it from time to time.


Speaker 3 [00:18:11] Notice how I put that qualifier in there on camera?


Speaker 2 [00:18:14] Anyway.


Speaker 1 [00:18:15] We do have a couple that are pretty good. They each have stories behind them. At least I don’t know if we’re going to do second anyway, but anyway. So make sure you tune in to that. And again, if you find yourself in a position where you want a second opinion or you’re just not sure what you should be doing inside your four and one. K Like we talked about last week, if you had some, you know, you just say you don’t ever look at it, but you wanted somebody, a professional, to take a look at it. Or if you just want us to, you know, take a look at your portfolio and see, you know, what you should be doing to hedge inflation or how to fight the Fed or anything like that. Make sure you come and see us. We’ll be happy to sit down and work with you. And I’ll let Eric set us off for another week.


Speaker 2 [00:18:52] Give us a call, schedule that review at your earliest convenience. Otherwise, thank you very much for listening to us today on whatever platform that you are listening to us, make sure you leave us a rating, leave us a review. We greatly appreciate it. If anybody in your friends or family or network of people that you know, feel you feel that they might benefit from any of the content that we’re putting out or anything that we have to say, I can’t talk today, and that’s okay.


Speaker 1 [00:19:15] It’s far from over. You know, you drink bourbon, right? Right.


Speaker 2 [00:19:18] But anything that you think that we are talking about is relevant to anybody that you may know if you could share our content with them. We greatly appreciate that as well. Thank you very much for listening and watching and spending some time with us here today. The information given herein is taken from sources that IFP Advisors, LLC, doing businesses, independent financial partners, IFP, IFP Securities, doing business. This IFP and its advisors believe to be reliable, but it is not guaranteed by us as to accuracy or completeness. This is for informational purposes only and in no event should be construed as an offer to sell or solicitation of an offer to buy any securities or products. Please consult your tax and or legal advisor before implementing any tax and. Or legal related strategies mentioned in this publication as IFP does not provide tax and or legal advice. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation or needs of individual investors. This report may not be reproduced, distributed or published by any person for any purpose without AFP express prior written consent. Securities offered through IFP Securities, LLC Doing Business as independent financial partners. IFP Member of FINRA and SIPC. Investment advice offered through IFP advisors doing business as IFP a registered and investment advisor. IFP and Family Wealth Planning Partners are not affiliated. The information given herein is taken from sources that IFP Advisors LLC doing business as IFP, IFP Securities, LLC, doing business as IFP and its advisors believe to be reliable. But it is not guaranteed by us as to accuracy or completeness. This is for informational purposes only and in no event should be construed as an offer to sell or solicitation of an offer to buy any securities or products. Please consult your tax and or legal advisor before implementing any tax and or legal related strategies mentioned in this publication, as IFP does not provide tax and or legal advice. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation or needs of individual investors.