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Are You Ready for a Cashless Society?When Do CD Rates No Longer Matter?
CD ladders can be a good way to invest in CDs. In a typical CD ladder, when a CD matures, you roll that into a long-term CD with the best rate you can find. I reviewed this strategy in this post. Many savers stick with 5-year CDs. In today's environment, some have increased the terms of the CDs in their ladders to 7 and 10 years to maximize their interest.
Poll Question
If CD rates keep falling, is there a point in which CD ladders no longer make sense? That leads me to today's poll question. When one of your CDs matures, how low of a CD rate would it take for you to keep that money in a liquid account instead of rolling it into a new CD? For example, if the best long-term CD rate you can find is only 1.00%, would that be so low that you would just move the money into a savings or checking account?
CDs vs. Savings Accounts
I hope we don't face this situation, but with the Fed's late-2014 pledge, it's possible that CD rates will continue to fall. A few internet banks already have unbelievably low 5-year CD rates. For example, the 5-year CD APY at iGObanking.com is only 1.10%. ING Direct's 5-year CD rate is even lower with a 1.00% APY (as of 1/31/2012).
The two reasons to purchase a CD rather than putting that money into a liquid account is a higher interest rate and a rate that's guaranteed not to fall until maturity. As CD rates fall, those two advantages become less important.
I reviewed a similar issue with savings accounts last year. In my last year poll, I asked when do savings account rates no longer matter. In the poll, 60% of the readers who responded said rates of 1.00% (or higher) were too low. As I described in that post, when rates are so low, the extra amount that you could earn by moving your money to another savings account may be too small to make the effort worthwhile.
The main issue with CDs isn't the effort to open a new account. It's locking your money into a low rate for a long period of time. A mild early withdrawal penalty can reduce this problem, but there are still potential risks. I have more details in my post, What to Do with Maturing CDs? Choosing the Best New Long-Term CD.
For those who want to keep the money 100% safe with no risk of principal loss, the main alternative to CDs is a liquid account like a savings or checking account. If you had a 5-year ING Direct CD maturing today and you wanted to keep your money with ING Direct, I think most savers would choose ING Direct's savings or checking account instead of a new 5-year CD with a 1.00% APY. Currently, ING Direct's savings account pays 0.80%. That CD rate isn't high enough to make up for the loss of liquidity in my opinion. However, it should be noted that the savings account rate may be much lower next year. That doesn't help make the CD much more attractive. Even if the savings account rate falls to 0.40%, that 1.00% CD doesn't look much better. In short, I think there's a CD rate so low that most everyone will choose the liquid account over the CD.
I'm Not Giving Up on CDs Yet
In my opinion, we have not reached the point where CD rates don't matter. Certain long-term CDs can still make more sense for safe money than keeping that money in liquid accounts. I reviewed using CD ladders with the highest CD rates in this post, and I reviewed choosing long-term CD rates with mild early withdrawal penalties in this post.
For savers with CDs maturing over the next year, CIT Bank's 2-year Achiever CD can be useful. If CD rates continue to fall, you can always fall back on this CIT Bank 2-year CD which allows for a one-time add-on deposit. I have more details in my CIT Bank CD review.
Searching for the Best CD Rates
To search for the best nationwide CD rates and the best CD rates in your state, please refer to the CD rates section of DepositAccounts.com.
So yes, CDs matter to me. I know people talk about diversifying one's portfolio, but pretty much just about everything else has risk, and even things that were virtually guaranteed to be "safe bets" or "safe bets over the long haul" have shown recently that it's not always the case. Even houses and property. If one lives to be 200 perhaps. And truth be told, if I had the inclination to take risks, investing in fine instruments (such as violins) and artwork has gone up more and stayed more steady over the years than stocks, but I still won't do it (especially as they require a lot more investment -- often as much as a house).
So CDs are still very relavant to me, and I have a feeling there are a lot of others out there like me as well. I don't begrude people for investing. Those that take risks often do (and should) get higher rewards. But that's not who I am, and up to now I've been lucky to get at least a somewhat decent CD rate. The real shock to me will come in 2015 when my current add-on 3% CD expires, if rates remain where they are.
Just a short PS: for those who are like myself, there ARE a few tidbits popping up here and there, but they're rare (and KUDOS to Ken and his page for making them easier to find). For instance, Navy Federal Credit Union had a 3% IRA recently (might still have) -- but of course it has restricted membership, and had an $18,000 max. But for those that could use it, it's pretty darn good for 2012. I've seen things like that pop up here and there. Try to get them if you can, folks.
He is trying to do the impossible - help us with a fading interest rate economy!
My hat goes off to him!
Why is it that someone like Romney (though certainly not just him, just using him as the latest example) only has to pay a 13.9% tax rate on income that comes from investments, while the rest of us who work not only have to pay a far higher rate -- but interest from MY investment (in my case, CDs) is taxed at the full rate?
If someone gets $10,000 a year interest from their investment in CDs, how is that different from someone who gets $10,000 a year from their other investments?
I was fortunate yesterday to be able locally to open a 5 year CD at just over 2.5%. I don't see how this can continue much longer. More important than the rate, the CU rep told me she had never had any member cash in a CD early. That's the kind of situation where I want my five year money. With the 180 day penalty, I am looking at the CD as a "one year minimum" situation. After that, who knows what will happen. If BHO is re-elected I most likely will be pleased to keep the CD intact for the next five years, because under his "leadership" the economy will go nowhere.
Thanks for all you do. When rates get this low, I feel we need take SOME risk to get us through this almost no interest periods. So what does that mean. For me, it's short term (4-7 year) tax free bonds, some MF bond funds, some REITS, and divident payers from the energy or utility sectors. All of that somewhat short term, so that when rates change, those dollars can come back and go back into ultra safe CDs and the like.
I think CD's are relavent and will continue to use them. Yesterday a spokesman for the CBO was on C-Span and stated their outlook and suggested the economy will pick up but not by much for the rest of the decade.
For those with maturing 5-year CDs, I would strongly suggest you explore low-cost Vanguard intermediate-term bond funds, available both in taxable (which are ideal for tax-deferred IRA accounts) and tax-exempt (for after-tax funds).
These types of bond funds generally present a "point of indifference" at a period of time equal to the duration when compared to the inception SEC yield. In plain English, a bond fund with a duration of 5.0 and an SEC yield of 2.0 (with dividends re-invested) should be worth just about the same as a 5-year CD with an interest rate of 2%, compounded. When a 5-year CD falls below the SEC yield on such a bond fund, it has become uncompetitive.
The Israel Bond has a 10 year 3.55% term (matures in 2022). It is not comparable (risk-wise) to a 10 year CD (currently a CD is reporting a 2.75/2.80% for a 7 year CU; or 2.70% at a local 10 year Bank).
Please be informed.
I think the posters are well aware that the Israeli Bond is a bond not a CD. They seem to have made that clear. But for a long-term fixed rate investment, it may be worth the minimal risk to get 3.55% vs. 2.7%. Over the course of 10 years, that's over $8,000 on a $100,000 CD. Reportedly, there's never been a default and the bond ratings are very high. By the way, that 2.7% which you quote may become very rare soon.