75: How the Fed's Rate Cuts Impact Your Money

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0:30You're about to make a trade. Which you do you listen to? Is it get optioning those options? Or let's do a little research. Learn more at finra.org slash trade smart. Hey everyone, and welcome back to the Rich Habits Podcast, a top 10 business podcast on Spotify. My name is Austin Hankwitz, and I'm joined by my co-host Robert Croak. Robert is a seasoned entrepreneur in his 50s with lifetime revenues of over$300 million under his belt. and I'm an entrepreneur in my late 20s with a background in finance and economics. Since quitting my full-time job in corporate finance a few years ago, I've built a seven-figure media business and actively advise some of the most well-known fintech companies around the world.

1:13As the show name might suggest, every episode, we talk about rich habits as they relate to business, finance, and mindset. However, we try and bring you two unique perspectives, one from an industry veteran, which is Robert, and the other, myself, someone who's still in the process of building wealth and figuring it all out. Robert, this episode's a really important one, and I hope a lot of people take notes and take action. But what are we going to be talking about? Yes, this is very important, so I am so excited for our listeners. And in this episode of the Rich Habits podcast, we're going to be sharing our perspective on how the Federal Reserve cutting interest rates will impact your money.

1:49As you all know, the Federal Reserve is the central bank of the United States, setting the standard for all other banks around the country and even the world. And in 2022, the Federal Reserve began raising interest rates at the fastest pace in over 40 years to combat rampant inflation. And this is so, so important because this caused the stock market to crash, the cost of borrowing to skyrocket, and demand for automobiles, boats, and other discretionary and recreational products to go into a freefall. And now that inflation has largely cooled, the Federal Reserve hasn't raised interest rates since July of 2023, an entire year ago.

2:30And now for the first time since the pandemic, the Fed is expected to cut interest rates. And with rate cut comes a lot of ripple effects that will impact every single one of you listening. And that impact is what this episode is all about. We want to make sure that you're in the know as it relates to how the upcoming rate cuts by the Federal Reserve are going to impact your money, your investment portfolio, your mortgage, your debt, and perhaps even your future. So Robert, let's jump in to the first way rate cuts will impact our listeners. Yes, number one is housing. Kicking things off with the first way the upcoming rate cuts will impact you and your money.

3:10As you all know, the housing market has been incredibly resilient since the pandemic and even after the Fed began raising rates. If you've tried to buy a house over the last few years, you've likely noticed that the interest rates on mortgages are at multi-decade highs and your buying power has gone down dramatically. You see the higher rates, you see the higher payments, and it really just changes the game. But this tough reality might change sooner than you think. While the Fed does not directly control mortgage interest rates, they do control how they're inadvertently calculated. And when the Fed raises interest rates, making it more expensive for banks to borrow money, that expense is passed along you to the bank customer, i.e.

3:51borrowers, to buy a house. So mortgage lenders set their interest rates based upon expectations of inflation and future interest rates. And if the rates are coming down, then that's going to be reflected in their price. So if the Fed begins to cut rates in September like everyone is expecting, mortgage rates should begin to come down as well. Very important part of this podcast is understanding how the Fed rate cuts affect mortgages and the correlation. Now, Robert, here's where things begin to get tricky for our listeners. Do you all remember what happened last time mortgage rates were so low?

4:26Everyone and their mother, their cousin, and their sister went out, borrowed as much as they could to buy as much house as they possibly could afford. This likely is going to happen again, causing the prices of these homes to be bid up higher and higher over time, right? So this is why Robert and I always say, if you're looking to buy a house, don't wait for this looming crash that you might see on Instagram or TikTok or Twitter or something. Buy when you can actually afford to buy and then refinance your interest rate later. Marry the home, date the rate. You've heard us say it probably countless times at this point.

4:59Now, additionally, Robert, this is going to positively impact the commercial real estate market, specifically the REITs, right? Real Estate Investment Trust. We're already seeing that positive impact to realty Income Corporation and VICI's stock prices, who are up 13 % and 11 % over just the last few weeks. As these companies can now begin to refinance their newer commercial properties that they've had to purchase over the last 12, 18, 24 months at these higher interest rates, as they can now refinance them at lower interest rates, more of those profits, company profits, will be kept for shareholders, which again is going to raise those stock prices back up.

5:35So housing absolutely is the first way that the Fed's rate cuts are going to be impacting you, not just yourself, but your portfolio here a little bit if you are an investor into REITs or even on Fundrise. Yes, we've been talking a lot about small cap stocks, REITs, and all of these rebounding as the Fed cuts rates and money becomes cheaper for people to borrow. Very excited to see what happens in the REIT market coming up and then also the small cap market. And that leads us into point number two today, and that is the stock market. As we talk about stock prices, let's talk about how the Fed cutting interest rates might impact the stock market.

6:14As we know, the Fed raising rates in 2022 caused the stock market to crash. And does that mean Fed cutting in 2024 and 2025 will cause the stock market to climb even higher? Well, maybe, but it's not so cut and dry. And the reason being it always comes back to the economy. Remember, the stock market and the economy are not the same thing. Please take a note on this because so many people think that they're correlated, they operate separately, and it's very important to understand that. Now, the reason why the Fed hike rates so quickly in 2022 was because the economy was fiery hot in 2021 as everyone was spending their COVID money, causing inflation to climb to record highs.

6:56Now that inflation is back to normal and the economy is cooling, the Fed thinks it's likely time to add a little bit of fuel to the fire. So Austin, this is such an important factor. This entire episode gives me goosebumps because how important this is for us to navigate the waters of the economy and the markets in the coming months and into 2025. So break it down for our listeners, because I think this is absolutely crucial. Yeah. So let's all remember that the Fed adding fuel to the fire is not a bullish indicator. The Fed cuts rates to fuel economic growth when the economy can't grow on its own.

7:34So if our economy isn't going to grow on its own, as showed now with GDP only up 1 % during Q1 of this year, then isn't that bearish for stocks? Well, yeah, that is bearish, which is why it's hard to answer this question, Robert. It's not so cut and dry. So lower interest rates are inherently good for stocks from a math perspective, a valuation perspective, because that means more profits for shareholders. But the reason behind cutting interest rates is inherently bearish as a slower economy is not good for the stock market. Now to help break all of this down for us, we are joined by Troy Cates from Neos Investments.

8:09Troy is the mastermind behind multi-billion dollar ETFs and has been working on Wall Street for decades. So Robert, kick us off with our first question for Troy. So Troy, explain the Fed cutting interest rates, why it might be both bullish and bearish for the stock market, because I think it's so important for our listeners to understand what all of these things mean moving forward. Because, you know, we hear this in the news every single day, what's happening with the rate cuts, what's it going to do to the bond market, what's it going to do to the stock market. So break it down in your opinion of what you see happening moving forward.

8:45Sure. Well, thanks for having me, guys. It's always a pleasure to come back and be here with you. I think when you're thinking about what is going to happen over the next six months or potentially a year and a half or so looking into 25 and what's going on with the interest rates is we're in this very interesting part of the market. We've seen interest rates go much higher from a basically zero. We were looking at interest rates close to zero a few years ago and the Fed had to fight inflation because of everything from the stimulus that they were giving from COVID money in 21 and what was going on in the markets and people starting to travel again.

9:17And you just saw the inflation kind of, you know, blow up in a sense. And they wanted to bring it back down to that kind of 2 % threshold where they like to see it. And so they started raising rates. And obviously with that, we had a sell-off in the market. And then eventually we've had this big rally over the past year. And we've watched the, you know, call it Magnificent Seven. We watched these mega cap stocks explode, not only in their growth, but their revenue, their earnings, and continue to grow larger in the market compared to the rest of the market. And so when you're thinking about, you know, we're looking at rate cuts potentially now in September and into the end of the year, we have to think about a few things.

9:51How big are those rate cuts? How many will we get? How much of an impact will it have on the market, which is really important? And when you're thinking about will this be bullish, will this be bearish for the market? I think it's good for the market in a sense that we're looking at it and saying, is the Fed saying, yes, we've kind of got inflation to a place where we think we want it and we could start bringing rates back down. And rates back down is good for a number of things. It's good for real estate. It's good for small companies that have to borrow money to continue to grow. It's good for the end retail investor who is looking to buy their first home or maybe has some debt on a credit card and those rates will come down a little.

10:28So it's good for the individual investor in the end to have rates lower than where they currently are. Because think about it, for years, everybody was used to very, very low interest rates. And then over the past couple of years, it's skyrocketed in their minds to, hey, it's going to cost 7%, 8 % to get that mortgage now where it was close to 3 % a couple of years ago. So I think it's bullish for the economy when you think about it from that perspective. How the stock market will do is a different perspective. You might see a rotation from these large mega caps into more small caps because as rates come down, these smaller companies that rely on debt to finance their growth and finance their businesses will have lower interest rates and can grow faster and quicker.

11:11So there's definitely a number of things that will play into it on how the economy looks at it, but also how the stock market will look at it. And I want to piggyback off of my first question about those mega cap, about the magnificent seven, these big tech stocks. Do you see AI slowing down at all for these tech stocks and the growth? And should people be weary of keeping their positions in the Nvidias and the Metas and the Googles and the AMDs of the world? Or do you still think it's business as usual for them, but these smaller caps are going to start to see more positive futures because money is now cheaper?

11:49In my perspective, it's probably business as usual for those mega cap stocks. The interest rate's changing. They don't usually finance things with debt. They have enough cash on the balance sheet. They have enough to grow their businesses. When you see this kind of what we talk about, this rotation to small caps because rates are potentially going to get cut, this is really just in a sense more trade people are trying to take an early stance on, yes, these small caps, which have been kind of not doing much over the past couple of years up until the past couple of weeks, want to take advantage of that and maybe take a ride higher with those small caps and see as rates are cut how far they could go.

12:24but I don't think there's going to be necessarily a slowdown in AI investment or growth. We've seen how it's grown so quickly over the past couple of years. And I think it's more of a catch-up trade, if you think about it from the small cap perspective. You had this group of the Magnificent Seven or these top stocks really trade higher over the past number of years and kind of carry the market with it. It's really just a catch-up trade with all the other small cap and all smaller companies kind of catching up to that spot potentially. Something I think is really important that this podcast does is we are as tactical and actionable as possible.

12:58So Troy, from your perspective, what can investors do right now to take advantage of sort of the short-term tailwind that they might be experiencing in their portfolios? If it's small caps, if it's bonds, like what can investors do today to position themselves for these rate cuts? You know, what we do here at Neos is we bring ETFs to the marketplace and we have, you know, as you mentioned earlier, some of our larger ETFs, SPYI, QQQI, which focus on that tech and growth and value areas of the market. But then we also have a newer ETF, IWMI, which is our Russell 2000 high income ETF. And that ETF owns the Russell 2000 as an underlying equity holding.

13:35And then it uses Russell 2000 index options to bring in additional income. So you can kind of get this growth of the Russell 2000 in the ETF while still bringing in real high income on a monthly basis from the option income that you get from the Russell 2000. So when we were looking at building out all these ETFs, we wanted to make sure that we were slicing up the pie. We have the value, the growth, and we wanted to make sure we had the small cap. And then on the fixed income side, whether it's looking at our enhanced income aggregate bond ETF, BNDI, where you have an aggregate bond portfolio and then you're bringing in additional income from the SPX index option market.

14:12These are two spots I could see as rates start to get cut that might be a little bit more favorable in your portfolio. And Troy, for the people listening right now that might not have heard of the Russell 2000 index, I know it was launched back in 1984 by the Frank Russell company, but add some additional color as to what the heck the Russell 2000 is. We all know what the S &P 500 is, what the NASDAQ 100 is. What is a Russell 2000? So it's just like the S &P 500 is an index of 500 stocks that fit a certain specification from the S &P 500. This is 2 ,000 small cap names that fit within the Russell 2000s kind of parameters of what can be put into this index.

14:52If they get too big, they get kicked out. So it's really these small cap names that you hear about, but don't necessarily, you know, it's kind of hard when you're thinking about which one do I invest in? Do I invest in these three companies or these two and really do my research? Or do I just buy an index and hold all 2 ,000 of these specific stocks. So the Russell 2000 is a really good way to get access to that small cap environment without having to dig in and really dive in to do too much homework. Because given the fact that there's 2000 names in this index, there's a lot of homework you'd have to do there to figure out which ones might be the best ones to invest in.

15:26So to be able to get access to those, whether it's an ETF like ours that wants to bring in additional income through the option market, or just straight pure play Russell 2000, there's different ways you could do that. Got it. So IWMI is your sort of suggestion here for some easy ways that investors can begin to position their portfolios to take advantage if they want that exposure to sort of those Russell 2000 small cap names as the Fed rate cuts, theoretically, as we've seen actually so far, should positively impact those prices. Yeah. So the nice part about it is even while you're waiting, if the Russell 2000 isn't moving up as much as maybe you had hoped, as it did early part of July, you're still getting paid income from premiums we bring in from selling the laddered short calls that are out of the money.

16:10So you're going to get some upside appreciation, but bring in that high monthly income from that call premium that gets distributed out. And I guess just a quick follow up there, Troy, is obviously you guys haven't announced a distribution yet. I'm sure you will by the time this episode comes out, but I'm assuming 12, 13, 14 percent, kind of like the other ETFs you have right now. Yes. So the kind of range for IWMI is that 12 to 15 percent range. And so it'll fall right in that range is what we have planned. And so given the market conditions, walk our listeners through, you know, rates are getting cut.

16:43We presume people are going to start to maybe pull back a little bit from big tech and the market's going to round out a little bit more. Where do you see the weighting of something like IWMI or BNDI as a portion of people's portfolios? Just so they can understand, as we talk to them about repositioning some of their money, what does that weighting look like for those two categories, those two sectors? No, this is really important. I think we get this question a lot. And it really comes down to the end client and what they're specifically looking for. If you're looking for some real small cap exposure, but need that income or want that income for a specific reason, then IWMI really fits into that portion of the portfolio.

17:25And it's really, you have to take a look at your whole portfolio. How are you positioned now? Where are you in your investing life cycle? Are you still wanting to take a lot of equity risk because you're younger or you're still looking for income or whatever that may be? And so a big portion of your portfolio might be in the, let's call it SPYI or QQQI realm of growth and value. But you want to take advantage of this potential rally in the small caps because of the future rate cuts. I think it really comes down to the end customer and the client. But for us, when we're looking at things, I want to make sure I have at least a portion of my portfolio in all of these areas.

17:59I want to be able to take advantage of the income from the options. but I also want to make sure I have part of my portfolio in these small caps or in this growth area so that when the market does move higher in those areas, I want to be involved. Troy, thank you so much for breaking all that down for both us and our listeners. I learned so much from you here. So now that we're on the same page regarding what to expect with the stock market, Robert, over the coming 12 to 18 months, let's now move on to the last piece of the equation, right? The last piece of how the Fed cutting rates is going to impact your money, your portfolio, and your debt.

18:33Luckily for some of you, lower interest rates from the Fed means your debt is going to begin to shrink. In case you forgot, interest rates on credit cards climbed by 14 % during the last two years, from 16 % to 30%, making it incredibly expensive to borrow money. This increase in interest rates negatively impacted the borrower's ability to pay down the debt as more and more of their monthly payments would be going towards interest, not principal. This increase in interest rates over the last few years has caused Americans' credit card debt to hit a record high of over$1 trillion. That's right, a trillion dollars with a T.

19:13As the Fed cuts rates, these interest rates on revolving debt-like credit cards and HELOCs will start to drop, giving you some breathing room if you're trying to pay these off. Don't forget, it's always a good idea to refinance high interest credit card debt with something like a personal loan or a debt consolidation loan. These interest rates are usually much lower and you're only working towards paying down a single monthly payment versus multiple payments with high interest debt. And Robert, it's the same deal with vehicles. I know a lot of people are being forced to purchase used and new vehicles with some insanely high interest rates right now, even in the double digits.

19:50This will soon be a thing of the past when the Fed cuts interest rates, allowing the rates our local credit unions will charge us to drop as well. All forms of debt will become cheaper, giving borrowers the ability to have a lower monthly payment, assuming we don't buy more vehicle than we can afford. It will also inherently inflate the prices, though, of everything around us that needs borrowed money to purchase, which includes, again, vehicles, boats, homes, etc. So again, we always tell you, get out of high interest credit card debt, high interest debt in general, and only buy it if you can afford it.

20:22Point blank period. Now, Robert, before we wrap up this episode, you told me you actually had a pro tip and I thought it was great. So let's just throw it in real quick. I know it's a point number four, but don't let me throw in these point number fours, but let's hear what it is. I know we're changing up the cadence a little bit, but I just thought it was so important that we think about and discuss high yield savings accounts. The only reason these accounts are able to pay 3%, 4%, 5 % plus on your money is because they're taking your money and they're buying those T-bills that we talk about all the time.

20:51And they're keeping a few basis points for themselves and giving you the rest. So why this is important for everyone to understand that's watching and listening today is when the Fed cuts rates, T-bills and bonds begin to fall. And as their yields fall, that's less and less they're going to pay you. And this is so, so important because you, the savers, we just don't want you to be surprised when you see your high yield savings that have been so great for the past 18 months or so go from five, four, even 3 % down to those rates in the next 12 to 18 months. And it's because the Fed is cutting rates.

21:26And we wanted all of you to understand the correlation of the prices going down in these bonds and in these high yield savings accounts and why they're doing so. Yeah. So if you are, for some reason, depending on your 5 % APY, high yield savings account interest on your emergency fund to pay for your monthly dinner out with your spouse or whatever you're using that extra interest for and you're depending on it, just not letting it get reinvested, but you're using it for something, be careful because it will begin to start coming down a little bit over the next 6, 12, 18 months as the Fed cuts rates.

22:02As the Fed cuts rates, bond yields fall, bond prices rise, which is something that Troy talked a little bit about in our conversation. So maybe a little bit of BNDI is a good idea now as bond prices are expected to rise. Robert, what a great pro tip. I appreciate that. I totally forgot about that one. And what a great episode, right? I think the Fed cutting rates has been sort of this headline news topic for what feels like the last two years. When's the Fed going to cut? When's the Fed going to cut? What's going to happen to our portfolios? What's going to happen to our money? What's going to happen to all the things around us.

22:35And it's kind of weird to think that a single central bank, right? One person, Jerome Powell can impact so many millions, tens of millions of Americans and what they're able to do, borrow, spend, save with their money. But that's just the reality we live in. So I hope this episode was able to teach you guys something as it relates to how the Fed cutting rates will impact your portfolio and your money. And if you like the episode and you learn something from this episode, be sure to share it with a friend, someone who follows the stock market like you, someone who's trying to save for that next new house, that next new boat, maybe they're paying off debt, right?

23:07This episode will definitely give them a little bit of pointers and some additional context as to what to expect over the next six, 12, and 18 months with their money. And I think for me, the important takeaway of this episode is just taking the information that's out there for everybody, the news and what's happening with the Fed and interest rates and all this, and really helping them understand it through breaking it down into bite-sized nuggets because people hear all of these terms every day, but they don't necessarily understand how it affects their money. And I think that is one of the key parts of this episode is really breaking down these movements as the economy and the markets change based on some of these factors and what it means for them and us.

23:50And that's why I love what we do each and every day here at the Rich Abbots Podcast. Now, Robert, before we jump into our Q &A section of the episode. Want to do a check-in, speaking of investments, on our FREC direct indexing portfolio. As you guys know, Robert and I deposited$20 ,000 of our own money into FREC.com. It's this awesome platform. We had a cool webinar with them all about direct indexing so that they could direct index the S &P 500 automatically on our behalf, allowing us to tax loss harvest against that. Now, what's really cool about this is it's all automatic. Robert and I are up about three and a half, 4 % since we've done it.