Current Certificate of Deposit Landscape:
In today’s troubling savings environment there is a hard case to make for bank deposits. The current interest rates, or APYs (annual percentage yields), provided on these products are uncharacteristically low broadly due to poor economic conditions.
That being said, bank CDs are still a staple product in any healthy portfolio and a top choice for income investors. Despite the gloomy interest rate landscape, a deposit will still fetch a higher rate than a checking account would (or stashing cash under a mattress, for that matter!).
Why are CD Rates so Low?
The main reason CD rates are historically low is a strategic move by the Federal Reserve. The idea is that by keeping key rates at near zero levels this will stimulate borrowing amongst prospective home buyers and small businesses, thus stimulating the economy as a whole and spurring growth.
Because of the direct correlation between loan rates and savings rates, when one is low the other is typically low as well. So now that we have an extremely low interest rate landscape for mortgage rates, we thus, have a low interest rate climate for savings accounts and bank CDs as well.
When can we expect CD rates to rise again?
Ah-ha! The money question. This is the question we attempt to tackle most here at BankVibe due to the frequency at which it’s asked. And the answer is this – the fed will CONSIDER raising rates when unemployment hits 6.5%.
For about two years (2010-2012) FED chairman, Ben Bernanke, kept setting a date that was between a year and a half and two years off as the time-frame for when rates will rise again. However, just late last year he altered his response slightly so that a specific economic metric is used to provide a time frame on rate hikes. As we mentioned above, that metric is unemployment. When unemployment hits 6.5%, we can expect to see rates tick upward.
Below is the current unemployment rate:
So Why Invest in a CD?
Despite their rates, consumers have still been flocking to these products as a safe haven for cash they would have otherwise kept as just that – cash. Rather than simply keeping large sums in a checking account, where they will be depreciating at the rate of inflation, a bank CD will at least help hedge against inflation by providing an, albeit rather small, interest rate. So with the stock market in disarray and gold seemingly near it’s peak, risk adverse savers (especially those deciding what to do with money in an IRA) are still relying on bank deposits as a risk free investment.
Inflation’s Affect on CD Rates
As we mentioned above, using a bank CD to protect your money against the erosion of inflation is a good idea. Remember, the real interest rate you receive (ie your earnings after inflation) are almost always going to be lower than your nominal earnings (interest minus any adjustment for inflation) unless the economy is going through a rare period of deflation.
Below is the current inflation rate. (Subtract the most recent percentage from your bank deposit APY and that is your “real interest rate.”)
Why are Bank Deposits Risk Free?
Bank deposits are federally insured by the FDIC up to $250,000. Therefor, even if your bank happens to go belly up while you hold a deposit with them, the federal government will still pay you your principal WITH accrued interest up to $250,000. This limit was previously set at just $100k before the bank collapse of 2008. It is set to expire in 2012, but will likely get extended.
CD rates – Fixed or Variable?
Interest rates provided on these deposits are fixed rates. When you sign up for a, say 2 year CD, with an advertised interest rate of 2.0% APY, you will incur a fixed 2.0% yield until maturity.
Comparing CD Rates From Multiple Institutions
Most people searching for deposit products on the web, would like to know a few things about the prospective product before they commit to it. 1) What is the APY or annual percentage yield? Using our tables above you can compare APY’s of banks from around the country as well as credit unions to make sure your money is maximizing its utility. 2) What, if any, are the minimum deposit requirements? Many banks and credit unions will require you invest a minimum amount to open a CD with them. It usually varies between $0 and $10,000 with some banks offering a higher APY for “jumbo CDs.” A jumbo CD is anything over $100,000. 3) What is the bank’s overall health? Using our table above we have a 5 star health rating figure which can allow you to compare the health of your prospective new bank. Even though your money is FDIC insured, it’s still nice to know your bank is reliable and stable.
Credit Union CD Rates
Credit Unions are fundamentally different than banks in that they are not-for-profit institutions that have no shareholders to report to. In fact, they are typically member-owned, so the shareholders are the owners. This means that any profits derived from operations are returned back to the members in the form of higher savings rater, lower loan rates, reduced fees and new products. Their savings rates are usually better than brick and mortar banking instituions (especially the large national banks) but are usually on par with online banks that have litte overhead costs. Credit Unions are not always open to consumers nationwide though and many require that you fall into one of their selected groups in order to be eligible. These groups can be employment based, geographically based or based on any other demographic. Make sure your credit union CD is federally insured by the NCUA (the FDIC equivalent) before you open it.
Deposit Rates around the World:
Think the US is the only developed country in the world with crummy CD rates? Think again! Most of the developed world had the same fiscal response to their own recessions as we did and that is lower rates to stimulate growth. Below is another graph using World Bank data illustrating the average deposit rates of several stable economies.