While news surrounding geopolitical and financial issues is by no means in short supply, the most significant financial headline of the fourth quarter was the U.S. Federal Reserve (the Fed) increasing the target federal funds rate for the first time in nearly a decade.  More specifically, the Fed’s policy-setting committee raised its benchmark interest rate, the interest rate at which a bank lends overnight funds maintained at the central bank to another depository institution, by a quarter of a percentage point from essentially zero.  Since the Fed adjusts interest rates to moderate the growth or contraction of the U.S. economy, this move signaled its belief that we have largely recovered from financial wounds suffered during the 2007-2009 financial crisis.  While signals of an improving economy are typically cheered by Wall Street, many investors continue to worry about the effects of current and future interest rate hikes.

Despite the rebound in stocks in the fourth quarter, the volatility that spanned much of 2015 contributed to the lackluster market performance we witnessed over the last year.  As the Fed was signalling confidence in the U.S. economy, global investors were closely monitoring developments surrounding the slowing Chinese economy and intensifying emerging market turmoil related to decreasing commodity prices and weakening currencies.

Asset class returns for the quarter and the year were as follows:

The recent rate hike by the Fed will almost certainly not be the last.  Understanding that rising interest rates will be part of the investment calculus for the foreseeable future, we think it worthwhile to highlight a few potential implications of this shift in U.S. monetary policy.

• There is no need to rush large purchases as borrowing rates remain near historic lows.  While now is a good time to consider the possible impact of future rising rates on the purchase of a home or car, there is no need to feel rushed in order to save on financing.  The Fed determines the target rate for very short-term debt, but it has a less direct and more modest impact on rates for longer-term borrowing such as mortgages and car loans.  Although impossible to precisely predict, expectations regarding future interest rate fluctuations can best be summarized by the recent remarks of Federal Reserve Chair, Janet Yellen, who stated that the nominal federal funds rate is “currently low by historical standards and is likely to rise only gradually over time.”

• Higher rates on savings accounts and money market funds are not immediately expected.  If you put money in a savings account or have certificates of deposit, you earned almost no interest over the last seven years.  Thanks to a savings glut that was initiated by the 2008 recession, banks are not currently competing for new deposits and are therefore slow to raise rates paid on savings accounts.  While America’s largest banks wasted no time in announcing that they would begin charging higher interest for loans following the Fed’s recent decision, they also made it clear that they did not have any immediate plans to increase interest rates associated with savings accounts.