Wipe the dust off your money-market accounts and certificates of deposit: Interest rates are going up.
Returns on these safe investments are the highest in five years, thanks to 16 Federal Reserve rate increases and increased competition for bank customers. That means money-market instruments and CDs are starting to compete with stocks and bonds as investment options.
“Since interest rates are coming off of 45-year lows, they’re putting cash investments like money-market funds and CDs back on the investor’s radar screen,” said Greg McBride, senior financial analyst for Bankrate.com, which provides personal-finance and interest-rate information to consumers. “The rising rate arena creates a great opportunity for savers to boost their returns.”
Savvy accountholders can click on Bankrate.com’s website to see the most current high-yielding accounts are across the U.S. For example, the national average for a six-month CD is 3.3 percent, but a few banks are now offering yields of more than 5 percent.
Aggressive equity investors may scoff at such returns, but the trade-off for lower yield is security in a financial market that bounces up and down with regularity.
The accounts are an attractive place to stash emergency funds and any money that needs to stay liquid, said William Burton, a certified financial planner and president of Capital Investors Advisory Group in Columbus, Ohio.
"Some investors have turned to CDs and money-market-accounts instead of bond funds for fixed-income investments," he said. "They fear bond returns will fall as interest rates rise. And if you have $10,000, $30,000 or $50,000 in a CD, a small difference in interest rates makes an impact.”
Low rates were good for borrowers, who refinanced mortgages and took out record numbers of home-equity loans, but bad for conservative investors looking for low-risk options. As the Fed raises short-term interest rate, borrowing money becomes more expensive, which allows banks to pay more interest on CDs, money-market and savings accounts.
"When rates go up, they go up on everything," said McBride. “Higher rates on loans are why banks are able to pay better rates on deposits."
Many banks offer new products to entice investors, and they’re just as likely to benefit from higher rates paid to savers because CDs are an inexpensive way to attract new deposits.
The changing climate also has made banks more competitive, trying to keep customers from taking their business to investment firms like Fidelity Investments or Charles Schwab that offer a range of choices. "Banks didn't have to compete on price in the past because there weren't many places for investors to place their money,” said McBride.
Smaller banks, also hungry for deposits, may offer better terms than their giant, interstate counterparts. Same goes for credit unions and thrifts.
Rising inflation — a 3.5 percent increase over the past 12 months — is another reason why every banking customer should shop around for a better deal, said McBride. “In order to maintain your buying power, you can’t afford to have your money sitting in a low-yielding account. You must peg your rate of return to the inflation rate.”
If you need access to your money, consider a money market account. They generally pay lower rates than a CD (the national average yield for a $10,000 MMA is 3.4 percent) but allow you to tap the money at any time without penalty. “It’s ideal for a liquid emergency savings account,” said McBride.
CDs’ rates of return increase with the term length. If you expect the Fed to keep raising rates, keep your CD terms short to take advantage of future increases, probably no longer than six months. Those with a significant pile of cash to stash might want to consider "laddering" the expiration of CDs to catch future rate increases. By staggering the term, money is available at regular intervals to be rolled into a new account at a higher rate. This makes it easier to save, but requires some planning to get the timing right.
But even those who see their savings account as a minor part of their overall finances should shake things up and shop around. "It can mean the difference between half of one percent or 4.5 percent on your money," McBride said. "You can't afford not to because you'd literally be leaving money on the table."