You’ve probably heard about the Federal Reserve’s interest rate adjustments. Maybe it even made the news with a little more excitement than you expected for what seems like an abstract economic lever. But if you’re retired, or close to it, you might be wondering: what does a Fed rate drop mean for my retirement savings account? It’s a fair question because that small shift in interest rates can ripple through the economy and land directly on your wallet.

The Fed, short for Federal Reserve, adjusts rates to manage economic growth, inflation and employment. A rate hike is often aimed at cooling off an overheating economy, while a rate drop is meant to spur growth during slower times. But for everyday folks planning for or already in retirement, the effects of these moves can be less obvious. So, let’s break it down.

How the Fed rate drop works

The Federal Reserve sets something called the “federal funds rate” — this is the interest rate at which banks lend to each other overnight. When the Fed lowers this rate, it makes borrowing cheaper for banks. In turn, banks lower the rates they charge on loans to consumers and businesses. While that sounds like great news for borrowers, it doesn’t always translate to smiles for retirees.

Why? Because those same lower rates typically mean you’ll earn less interest on savings accounts, bonds and other fixed-income investments that retirees rely on for income. It’s the financial equivalent of getting a smaller slice of the pie, even though you’re still eyeing that same dessert.

The hit to savings accounts and CDs

Let’s start with your traditional savings accounts and certificates of deposit (CDs). A Fed rate drop often causes the interest rates on these types of accounts to fall. It’s the classic “low-risk, low-reward” situation. Savings accounts and CDs are usually considered safe places to park cash, but they’re not known for providing eye-popping returns.

When the Fed cuts rates, your savings account or CD will likely follow suit. You might’ve been earning 2% on your savings, but after a rate drop, that could fall to 1% or even lower. Sure, the money is still there, but it’s growing at a much slower pace. Over time, that slower growth can erode the power of compound interest — one of the primary drivers of long-term wealth accumulation.

Bonds and fixed-income investments

Now, let’s talk bonds. If you’ve retired or are close to retirement, there’s a good chance you’ve moved a portion of your portfolio into bonds. After all, they’re considered safer than stocks, offering consistent, if modest, returns. But here’s the kicker: bonds don’t always perform well when interest rates drop.

Most bonds pay a fixed rate of interest. So, when new bonds are issued at lower rates due to the Fed’s rate cut, the older bonds you already own become more valuable. This is because your bonds are paying a higher rate than what’s available in the market. That sounds great, right? But the problem arises if you’re buying new bonds after the rate drop. These new bonds will offer lower yields, meaning you’ll be earning less income from them. It’s like showing up to a dinner party only to find out they’ve replaced the gourmet feast with a bag of chips.

If you’re heavily invested in fixed-income assets like bonds, a rate drop can reduce the income those investments generate. In retirement, when you’re likely relying on a steady income stream, that can sting.

The stock market angle

While a Fed rate drop can be a drag for savers and bondholders, it can give a boost to the stock market. Here’s why: Lower interest rates make borrowing cheaper for businesses, which can spur growth. When companies have access to cheaper credit, they’re more likely to invest in expansion, hire more workers and, hopefully, boost their stock prices.

For retirees with a portion of their portfolio in stocks, a Fed rate cut could increase the value of those holdings. That’s a plus, right? But be careful not to celebrate too early. Stocks are volatile, and while a rate cut can give them a short-term bump, it doesn’t guarantee long-term growth. If you’re living off your retirement portfolio, you don’t want to bank on a market that’s prone to rollercoaster rides.

Impact on pensions and annuities

If you’re lucky enough to have a pension, you might think you’re immune to the effects of Fed rate changes. Think again. Pensions are often funded with a mix of assets, including bonds. A prolonged period of low interest rates could hurt the returns on these bond investments, which in turn might affect the financial health of the pension fund. In extreme cases, some pension funds might even struggle to meet their future obligations.

Similarly, if you’re invested in annuities, particularly fixed-rate annuities, you might find that new annuities offer lower rates. That means if you’re shopping for an annuity after a Fed rate drop, you’ll be locking in a lower payout for the rest of your life. Talk about a long-term commitment with diminishing returns!

What can you do?

It might feel like the Fed has more control over your retirement than you do, but that’s not the case. Here are a few strategies to consider if a rate drop is looming:

1. Diversify your portfolio: Don’t put all your eggs in one basket. A well-diversified portfolio can help you weather the ups and downs of rate changes.
2. Look beyond traditional savings accounts: You may want to explore options like high-yield savings accounts or even short-term bond funds to get better returns.
3. Consider fixed indexed annuities: If you’re looking for income in retirement and are concerned about low rates, fixed indexed annuities could provide growth linked to market performance with some downside protection.
4. Talk to a financial advisor: They can help you navigate interest rate changes and adjust your retirement strategy accordingly.

The bottom line

A Fed rate drop can feel like a mixed bag for retirees. While it might give a boost to your stock portfolio, it can shrink the returns on your savings, CDs and bonds. Worse yet, if you’re shopping for new annuities or bonds, you could find yourself locking in lower returns for years to come.

The key is to stay flexible. Keep an eye on your investments, adjust your strategy as needed and don’t be afraid to seek professional advice. After all, retirement is supposed to be your golden years — you’ve earned the right to make sure that pot of gold stays full, no matter what the Fed decides to do.

Lyle Boss, endorsed by Glenn Beck as the premier retirement advisor for Utah and the Mountain West States. Boss Financial, 955 Chambers St. Suite 250, Ogden, UT 84403. Telephone: 801-475-9400.