Diligent savers just can’t catch a break. This week, the Federal Reserve revealed a dimmer outlook for the U.S. economy, and took action to drive down interest rates in an effort to spur economic growth. More important to savers, the central bank said the next rate hike is not expected until mid-2015, nearly three years from today.
“My colleagues and I are very much aware that holders of interest-bearing assets, such as certificates of deposit, are receiving very low returns,” said Fed Chairman Ben Bernanke in a Thursday press conference. “While low interest rates do impose some costs, Americans will ultimately benefit most from the healthy and growing economy that low interest rates help promote.”
Bernanke’s message to savers is a reiteration of his comments in previous Fed announcements of rate projections.
In August 2011, the Fed made its first, unorthodox disclosure of when it expected interest rates to rise. At the time, the Fed said interest rate would remain at exceptionally low levels until mid-2013. After the announcement, national averages for CD rates experienced the largest month-to-month drop for the year. Additionally, competitive savings accounts offered by popular online banks, including Ally Bank and Discover Bank, received rate cuts.
In January 2012, the central bank pushed back its rate projections, saying that interest rates would stay depressed until late 2014. Having already priced in the August announcements, rates fell slightly.
Now the next rate hike isn’t expected until mid-2015. Interest rates appeared to have remained stagnant in recent months. Based on prior Fed announcements, deposit rates could begin on their downward slide again.
With the repeated extensions of when rates might rise, Bernanke echoed the Fed’s stance on the matter — savers will suffer, but it is for the greater good of the economy. Savers may understand the need for this large-view approach to improving the economy, but they still have to save. So, what can they do to maximize returns of low-risk savings vehicles in this prolonged period of low rates?
Staying ahead of the curve
The stock market has always been an attractive destination for those seeking greater returns on their money. Oddly enough, this week, the Dow Jones Industrial Average reached its highest level since 2007. Stocks provide plenty of potential earnings, but investors could also lose all their money. The allure of deposit products, such as CDs and savings accounts, lies in the safety of FDIC insurance.
Currently, many of the top savings account rates are struggling to break 1.00% APY; the same goes for the best 1-year CD rates. On a $10,000 balance, that equates to $100 in interest earned after one year. Since the rates on savings accounts and 1-year CDs are so similar, savers should just stick to savings accounts because they offer liquidity.
Savers who are comfortable keeping their money locked in a CD for a long time could go with 5-year CDs. Opening such a CD now would secure higher rates before a rate drop occurs. CIT Bank offers a nationwide 5-year CD rate of 1.85% APY (on a $10,000 initial deposit, $960 in interest earned at maturity). Building a CD ladder remains a good strategy for getting the solid rates.
Special CDs known as bump-up CDs, which allow savers to increase the interest rate without penalties, can be a gamble. These CDs tend to start off with a less competitive rate, for similar terms, in exchange for the rate-increase option. If rates don’t improve, these CDs are stuck providing a lower return. The Fed has already extended rate projections multiple times and it could do it again.
Money market accounts (MMAs) and rewards checking accounts are viable alternatives for savers who can meet their stringent requirements. Some of these accounts may offer a reduced rate on balance above a certain amount.
MMAs are very similar to savings accounts but with higher interest rates. They usually come with a minimum balance to earn that high rate and/or to avoid a monthly fee. UFB Direct, an online bank, offers the leading nationwide MMA rate at 1.10% APY with a $5,000 minimum balance.
Rewards checking accounts, most commonly found at community banks and credit unions, will usually require direct deposit, paperless statements, online bill pay and a number of debit-card transactions to earn a highly attractive interest rate. For example, East Syracuse, N.Y.-based Beacon Federal bank has a rewards checking account with a 3.00% APY on balances up to $5,000 and the rate gradually drops for amounts above $5,000.
Although they’re not a deposit product, Series I savings bonds can offer savers another way to get better-than-average returns with low-risk. Sold by the U.S. Treasury, I-bonds offers rates that fluctuate with the inflation rate, which usually increases when the economy improves. Savers who purchase an I-bond before November will receive an effective 1.11% APY, if redeemed after one year.
These are the safest routes that savers can take in preparing for the next three years of dismal interest rates. Unsurprisingly, many savers will be driven to riskier assets to boost their financial situation. However, nothing beats the peace of mind that comes from having a stash of savings.
How are you weathering this low-rate environment?