THE FED JUST HIKED RATES *AGAIN* | Major Changes Explained

What's up, Graham? It's guys here. So, you know the saying that history doesn't repeat itself, but it often rhymes? Well, that's what many believe is beginning to happen as the Federal Reserve heads towards an event that we haven't seen in almost 50 years, and that would be the Volcker shock. This was a method used by the Federal Reserve to bring down record high inflation throughout the 1970s.

Even though it also brought a recession, falling stock prices, higher unemployment, and a decade-long recovery that's become so infamous that even the White House references them in comparison to what's happening today, it's worth discussing their new plan to fight the market. The impact this is going to have throughout the entire economy, whether or not this could also lead to a Volcker shock, and then finally how you could use this information to make you money. All of that and more on today's episode of the market still makes absolutely no sense, but at least this guy is bringing back Blockbuster 2 from his basement. Watch out, Netflix!

Alright, before we start, it would help me out tremendously if you Volkered that like button for the YouTube algorithm by inflating it until you see confetti. Basically, just give it a gentle tap because it helps with the channel. As a token of my appreciation, here's a picture of a chipmunk, and also a big thank you to Wealthfront for sponsoring this video, but more on that later.

Alright, first, it's important to mention exactly what the Federal Reserve is actually doing. Because unlike what most people think, their goal is not to make the stock market go up so that you could post your profits on WallStreetBets. Instead, the Federal Reserve is what's known as a central bank, whose role is to oversee our economy, regulate financial institutions, and control the supply of money into and out of our system.

Their priority over everything else is to ensure that we have a strong labor market, we have maximum levels of employment, and inflation doesn't one day lead us to paying fifty dollars for a loaf of bread by 2030. Now, they've made it very clear since the beginning of the year that they intend to raise rates and tighten their policies to reduce the demand and price of goods and services.

On March 16th, they proved their first rate hike of 25 basis points. Even though that might not sound like a huge rate increase on paper, mortgage rates quickly shot up to five percent. The stock market tumbled on concerns that China's lockdown could make U.S. inflation even worse, and now it's all but confirmed that we'll see a 50 basis point rate hike throughout the rest of the year, potentially causing prices to continue to fall.

So, of course, that begs the question: How have similar rate hikes happened in the past, and is there a chance the dreaded Volcker shock is happening again 40 years later? Well, here's where things get interesting, or at least interesting for me because I'm obsessed with all things personal finance. But listen to this: The Volcker shock all began when Paul Volcker became the chairman of the Federal Reserve in 1979 during a time known as the Great Inflation.

See, prior to then, Congress enacted what's called the Employment Act of 1946, which designated the federal government to promote maximum employment, production, and purchasing power. In other words, Congress basically said to the government: Figure out how the economy grows so that everyone starts making more money. Although inflation began to increase as a consequence of low interest rates, economists got worried. Many countries began redeeming their U.S. dollars for gold, and when the U.S. couldn't keep up with demand, they abandoned the gold standard, causing the price of just about everything to skyrocket.

Investopedia reports that in 1973, inflation more than doubled to 8.8 percent. Later in the decade, it would go to 12 percent, and by 1980, inflation was 14 percent. That's of course when Paul Volcker came to the, uh, how should we say, rescue. He had the goal of bringing down inflation, and after securing his position within the Federal Reserve, he announced that he would start limiting the growth of the nation's money supply.

As money became more scarce, banks would raise interest rates, limiting the amount of liquidity available in the overall economy. However, the end result was that interest rates quickly jumped to 20 percent. The United States fell into a deep recession, unemployment surpassed 10 percent, and stock and real estate values plummeted. But hey, at least on the bright side, by 1983, inflation finally dropped below 4 as the economy began to recover. So, that's good, right? Right?

Well, obviously, as we're beginning to see, there are risks with raising interest rates and with many more rate hikes planned throughout the rest of the year. Here's what you need to know: Throughout the last few weeks, you've probably heard the term "soft landing." This refers to a gradual slowdown of the economy following a period of rapid growth, kind of like landing a plane on a smooth tarmac versus dropping glass from 45 meters in the air.

As of now, that is the Federal Reserve's goal—the plane, not the glass. I want to make that clear. In a perfect world, the Federal Reserve could slowly increase interest rates, inflation would gradually begin to decline, and then the economy could shake it off like Taylor Swift. But they don't have the best track record of doing that.

Out of the previous 13 rate hike cycles, 10 of them have preceded a recession, and as Fannie Mae concludes, it's a lot more likely that we're going to see what they call a "hard landing," right? As the Fed signals that they're about to be much more aggressive than they have been in the past. In fact, they even go so far as to say that we believe enough has now changed over the past couple of months to expect this eventual downturn by the end of 2023.

With inflation continuing to rise, the Federal Reserve has all but confirmed that we're likely to see an upcoming 50 basis point rate hike in May, and some of the more aggressive Fed members even suggest a 75 basis point rate hike to get it out of the way. The goal in the short term is to achieve what's called the neutral interest rate, which is a rate that neither sparks nor hurts growth—it's just neutral.

To make things even more confusing, the neutral interest rate isn't even known; it's just estimated based on various analyses and observations. But others argued that this assumes that inflation has to come down, but if it doesn't, they may need to hike rates even further, with one analysis calling for rates to hit 4.25 percent, which is far from where we currently stand at 0.25 percent.

Although in terms of what this means for the stock market, housing values, and your money, these are the risks because rising interest rates affect a lot more than just your wallet. In terms of other risks, rising rates would have several large effects, with one of them being savings accounts. For the last two years, you've probably noticed that most bank accounts, including high-yield ones, are not paying you a high interest at all.

In a way, this type of scenario incentivizes people to spend and invest their money because otherwise, if they keep it sitting in a savings account, they're losing value to inflation. But that might soon begin to change now that the Federal Reserve is beginning to raise rates. A savings account could actually pay you what a savings account should, like the good old days when Ally Bank actually paid you 2.2 percent in a savings account that could actually outperform the stock market.

Now, unfortunately, do not expect your bank to pay you out 3 percent anytime soon, but as the federal funds rate continues to rise, expect that savings accounts will start paying you a little bit more each and every time.

Second, the stock market: On the most basic level, these charts are right—low interest rates help fuel growth by making money cheap and accessible to borrow. It incentivizes spending, and that in turn leads to more profits. But surprisingly, there's not a one-size-fits-all approach that says that high interest rates are bad and low interest rates are good.

And here's what I found surprising: Since the 1950s, even throughout interest rate increases and decreases, the stock market has continued to trend upwards. If we then take an even closer look since 2017, we could see that throughout several rate hikes, the market defies the odds and even kept going up.

So, overall the conclusion is that yes, higher interest rates can lead to a rotation away from growth and tech, as well as declining profits. But other industries, like banking, industrials, and semiconductors, tend to outperform as rising rates go together with an improving economy. That's why in the big picture, other market conditions like demand, inflation, and employment can play just as big of a role.

That means that over time, stocks and interest rates could go up together, even though in the short term it might be a little bit choppy. Third, we have home prices. Mortgages have now risen for seven weeks straight, and now the 30-year fixed rate stands at just over five percent. As a result, mortgage demand has dropped by 40 percent, and the worry is that home sales may begin to fall now that housing prices have hit record highs.

Well, I guess all record highs are new because that's what makes them a record, right? Anyway, on the surface, it makes sense that the higher interest rates go, the less homes people could afford to, and as a result, the more home prices drop. But the more you begin to look at it, the more you begin to realize it's not that simple.

If we look back historically, we could see that after World War II housing prices continued to climb right alongside with interest rates. After that, rates dropped, and home prices continued going up even more. It was also found that overall, a change in interest rates has not substantially affected housing values over the long run.

That means that most likely, there are other factors that have just as big of an impact. For example, the homeowners who just locked in historically low interest rates might be less likely to move because if they sell, they'd have to buy a new home with a higher interest rate than they have today. So perhaps it's better for them to stay, leading to less inventory in an already constrained market.

Even though it is true that higher interest rates directly affect home affordability, other factors like local market conditions, supply and demand, inflation, tax deductions, population changes, and the overall health of the economy play just as big of a factor. So rising rates alone are not going to be enough to cause prices to decline.

Of course, we also have other side effects like higher credit card interest rates, higher auto loans, higher personal loans, and higher borrowing rates. But according to the White House, they say that the inflation we're seeing today is very similar to what happened right after World War II. This was concentrated in supply disruptions and pent-up demand after a period of temporary suppression.

In 1956, it was said that the inflation episode ended after two years as domestic and foreign supply chains normalized and consumer demand began to level off. Now, obviously, every time period is going to be different, and every situation is going to be unique. But with the Federal Reserve having a history of, well, hard landings and spooking the markets, I think the best thing we could do is stay employable, make yourself as indispensable as possible.

If we see a recession, keep a three to six month emergency fund at all times. Only take fixed-rate debt if you're buying a house or a car, and only buy investments that you plan to hold for at least seven to ten years. Yes, these are the same things that I would be telling you to do when times are good, and frankly, you should always be practicing good financial habits even when the markets move up for seemingly no reason.

But the tried and true investors educate themselves on the markets, they understand what's going on, and then they buy and hold as usual. Even though I wouldn't be surprised if housing prices begin to fall or the stock market continues to sell off, I'm not changing my plan at all because we have no clue what might happen, when things might turn around, or how long things will last.

So yes, even though the Federal Reserve can Volcker shock the market and drag pull everybody with higher than expected interest rates, I just keep piling in every single day, riding the roller coaster. And no matter what, smash the subscribe button for the YouTube algorithm. Also, don't forget to check out our sponsor Wealthfront down below in the description to take advantage of their offer before it expires.

So, with that said, you guys, thank you so much for watching! Also, feel free to add me on Instagram. Thank you so much for watching, and until next time!