At the second FOMC meeting of the year, the Fed raised the federal funds rate by 25 basis points. The move had been widely expected since March 3rd when Fed Chair Janet Yellen gave a speech with strong signals pointing to a rate hike at this meeting. Here’s that all important paragraph in today’s FOMC statement:
In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 3/4 to 1 percent. The stance of monetary policy remains accommodative, thereby supporting some further strengthening in labor market conditions and a sustained return to 2 percent inflation.
The Fed kept its note regarding its expectations for gradual increases in the federal funds rate. However, there was one slight change. They removed the word “only” in the sentence. It now says:
The Committee expects that economic conditions will evolve in a manner that will warrant gradual increases in the federal funds rate
The Fed used to say “will warrant only gradual increases”. This change appears to open the door to faster rate increases. However, Fed Chair Yellen was asked about this change in the press conference, and she downplayed the change. She said that it’s “something that shouldn’t be overly interpreted”, and she “regards it as a relatively small change.”
In addition to the FOMC statement, the Fed released new economic projections which includes its projections on the federal funds rate, the “dot plot.” Since this rate hike was early in 2017, there had been expectations that the Fed may change its fed funds rate projections with more Fed members anticipating four or more rate hikes in 2017. That didn’t happen. Most FOMC members continue to anticipate just three rate hikes in 2017.
What To Expect from Deposit Rates
On Tuesday, I published an article from Sabrina Karl who researched the effects of the last two Fed rate hikes on deposit rates using our proprietary database of deposits data. She summarized the two rate hikes as having only a “middling effect – positive movement in some areas, flat lines in others, and even some unexpected downturns.” Will this Fed rate hike be different?
One reason to be optimistic is that this Fed rate hike shows that the Fed is on schedule, or even ahead of schedule, for the three rate hikes in 2017 that were indicated by the Fed’s December projections. That shows the Fed’s confidence in the economy, and that should increase the chance that we’ll see more banks increasing their rates.
Deposit Account Strategies for 2017
It seems very likely that Fed rate hikes in 2017 won’t be as gradual as they were in 2016 when there was just one hike. However, it’s still going to be gradual. Thus, we’re not going to see the deposit rate hikes that we saw in 2005 when the Fed increased rates eight times. With only a gradual rise in interest rates, today’s long-term CDs will likely earn more interest than if you keep that money in a savings account.
Of course, a CD ladder is a tried-and-true way to invest in CDs. With a CD ladder, you never have to wait too long for a CD to mature. In a rising interest rate environment, CD ladders provide more opportunities to roll over maturing CDs into new higher-rate CDs.
Another thing that helps CD investors in a rising rate environment is by choosing long-term CDs with early withdrawal penalties (EWP) of 6 months’ interest or less. A long-term CD with a 6-month early withdrawal penalty can be closed early and still be a better deal than many top shorter-term CDs kept to maturity.
As we discussed many times, there is some risk that the institution may not honor early withdrawals or may increase the EWP before a CD matures. That’s another reason to use CD ladders.
To review the effective rates of CDs closed early, please refer to our CD Early Withdrawal Penalty Calculator.
Lastly, you may find yourself keeping more cash in savings and checking accounts. That will be tempting as internet banks come out with higher savings account rates. Choose internet banks that have no minimum balance requirements and have solid ACH transfer capabilities. If your internet bank falls behind on rates, you’ll want to be able to easily and quickly move your money.
Future FOMC Meetings
The next three FOMC meetings are scheduled for May 2-3, June 13-14 and July 25-26. The June meeting will include the summary of economic projections and a press conference by Fed Chair Yellen.