The outcome from last week’s FOMC meeting suggests that we won’t see a Fed rate hike for a very long time. In its policy statement, the Fed included new inflation language that describes the general timeframe for how long the near-zero rates will last:
Committee will aim to achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time
If inflation rises inline with the Fed’s current expectations, it’s unlikely the Fed will hike rates until well after 2023. This is based on the updated Summary of Economic Projections (SEP) that the Fed released after its meeting last week. The SEP shows that the majority of the Fed policymakers are anticipating that inflation will remain under 2% through 2022 and won’t reach 2% until the end of 2023. Based on the Fed’s new inflation strategy and if these inflation predictions are accurate, it will likely take at least a year or two after 2023 before the Fed will hike rates.
Also in the SEP is the Fed’s dot plot which summarizes the federal funds rate forecasts of the Fed policymakers. Those forecasts point to no rate hike through 2023. None of the 17 policymakers anticipate a rate hike through 2021. Only one out of the 17 policymakers anticipates one or more rate hikes in 2022, and only four of the 17 anticipate one or more rate hikes in 2023.
The best hope for savers is that the economy has a strong and steady recovery. There have been many signs that the recovery has exceeded expectations. However, the economy still has a long way to go. Fed Chair Jerome Powell reiterated this point in his testimony today before the House Committee on Financial Services:
A full recovery is likely to come only when people are confident that it is safe to reengage in a broad range of activities. The path forward will depend on keeping the virus under control, and on policy actions taken at all levels of government.
This MarketWatch article describes how the economic recovery has started to slow:
The thundering economic rebound that followed a historic recession in the wake of the coronavirus pandemic has shifted into a more lukewarm recovery. Consumer spending has slowed, business investment is soft, and the number of people going back to work has tapered off.
If it does take multiple years to return to the pre-pandemic economic numbers, the Fed’s inflation and rate forecasts may prove to be accurate, and that means that savers may have to wait years before they see deposit rates rebound to 2018/2019 levels.
The Fed Funds futures market (via the CME FedWatch Tool) is now displaying implied federal funds rate probabilities out to September 2021. Unfortunately for savers, there’s still no ray of hope from the Fed Funds futures market. It shows zero chance of a rate hike through September 2021.
For about a month before the June 10th Fed meeting, the Fed Funds futures market was showing slight odds of a rate hike through March 2021. Once the June 10th Fed meeting took place with the new SEP that showed no expectations for rate hikes through 2022, the Fed Funds futures have shown zero odds of any rate hikes through March 2021.
The Treasury yields changed little from last week. The 6-month and 1-year yields had the largest change, both falling only 2 basis points from last week. The 2-, 5- and 10-year yields remained the same from last week.
When the Fed’s new inflation strategy was released in late August, there were small increases in the long-dated Treasury yields, and those higher yields continue to hold. Long-dated Treasury yields are most impacted by inflation expectations, and the Fed’s new inflation strategy did seem to result in the markets seeing slightly higher odds of higher inflation in the future.
Treasury Yields (Close of 9/21/20):
- 1-month: 0.09% down 1 bp from 0.10% last week (1.95% a year ago)
- 3-month: 0.10% down 1 bp from 0.11% last week (1.91% a year ago)
- 6-month: 0.11% down 2 bps from 0.13% last week (1.91% a year ago)
- 1-year: 0.12% down 2 bps from 0.14% last week (1.84% a year ago)
- 2--year: 0.14% no change from last week (1.69% a year ago)
- 5--year: 0.27% no change from last week (1.61% a year ago)
- 10-year: 0.68% no change from last week (1.74% a year ago)
- 30-year: 1.43% up 1 bp from 1.42% last week (2.17% a year ago)
Fed funds futures' probabilities of future rate changes by:
- Nov 2020 - up by at least 25 bps: 0.0%, same as last week
- Dec 2020 - up by at least 25 bps: 0.0%, same as last week
- Mar 2021 - up by at least 25 bps: 0.0%, same as last week
- Sep 2021 - up by at least 25 bps: 0.0%
CD Interest Rate Forecasts
Just like last week, there are fewer notable rate cuts at banks and credit unions. That’s the only good news for savers. CD rates continue to fall at several banks and credit unions.
Synchrony is the latest major online bank to lower all of its CD rates below 1.00%. Its 5-year CD APY was lowered from 1.00% to 0.90%. Its 1-year CD rate fell from 0.75% to 0.60%. Both are all-time lows. The pre-2020 all-time yield lows are 1.50% for the 5-year (2013) and 1.05% for the 1-year (2013 and 2014). On a hopeful note, CD rates did increase in late 2013 even as the Fed continued to hold rates near zero. From April 2013 to April 2014, Synchrony Bank’s 5-year CD yield increased from 1.50% to 2.30%. Let’s hope for a similar rate turnaround in the next couple of years.
Due to the rate cuts from institutions like Synchrony Bank, I remain worried that this new zero-bound period will be worse than the last one from 2008 to 2015. The speed and severity of the current CD rate collapse is far worse than what we saw after the Fed cut rates to the zero-bound limit in 2008. If we fall into a long recession, I’m afraid all of our deposit rates may fall below 1.00% and be stuck there for some time to come.
Since there were so many rate cuts in the last week, I’m only listing rate cuts that are most interesting for DA readers. Also, I’m only including two to three CD rate changes per institution to avoid an overload of data. All percentages listed below are APYs.
- Pen Air FCU (4yr 1.30% → 1.25%, 1yr 1.00% → 0.90%)
- Synchrony Bank (5yr 1.00% → 0.90%, 1yr 0.75% → 0.60%)
- Discover Bank (5yr 0.95% → 0.80%, 1yr 0.70% → 0.60%)
- Comenity Direct (2yr 0.85% → 0.75%, 1yr 0.80% → 0.60%)
I’ll have more discussion of the CD rate changes in my CD rate summary later today.
For savings and money market accounts, rates seem to be settling around 0.60% as the potential bottom for online savings account rates. The latest major online banks to lower their savings account rates to this level are Discover, American Express and CIT Bank.
I’m hesitant to call a bottom. It’s still early in this new zero-bound period. During the last zero-bound period (2008-2015), online savings account rates reached a bottom in a range of around 0.70% to 1.00%. In most cases, the bottoms didn’t come until 2012 or 2013, which was more than three years into the zero-bound period. I think it’s quite possible that online banks will cut some more over the next year or two.
Below are examples of important savings and money market rate changes in the last week. As is the case with the CD rates, I’ve included only rate changes from the online savings accounts that DA readers would be most interested in. All percentages listed below are APYs.
- PenFed Premium Online Savings (0.80% → 0.70%)
- CIT Bank Money Market (0.75% → 0.60%)
- American Express High Yield Savings (0.80% → 0.60%)
- Discover Bank Online Savings (0.70% → 0.60%)
- Elements Financial Helium Savings (0.65% → 0.55%)
- Quontic Bank Personal Money Market (0.75% → 0.55%)
- MySavingsDirect Savings (0.65% → 0.55%)
- Investors eAccess Money Market (0.40% → 0.25%)
Scenario #1-A: Economy recovers slowly
I decided it was time for a new scenario in how the economy and rates recover. In this scenario, the economy recovers, but it’s a slow recovery that takes multiple years before the economic numbers return to the pre-pandemic levels. The Fed waits for inflation not only to reach its 2% target, but it also waits additional time for inflation to hold above 2%. This results in the Fed maintaining its zero-bound policy for several years. Based on this scenario and the current Fed forecasts, we probably won’t see a Fed rate hike until around 2025.
Scenario #1: Pandemic wanes and the economy surges back
This is my original scenario in which the economy surges back quickly and strongly. This will probably take a successful vaccine program (there is evidence that this might happen). If the strong recovery does occur, the U.S. economy surprises on the upside later this year and next year. We could then reach pre-pandemic economic numbers before the end of 2021.
Once the economy has reached full or near-full recovery, we’ll then have to wait on the Fed to hike rates. Based on its new inflation strategy, it’ll probably take a year or two. So if we see a full recovery by late 2021, it’s possible that the Fed starts hiking rates by the end of 2023. Four out of 17 of the Fed policymakers are forecasting such a scenario.
Scenario #2: Economy falls into a major recession and CD rates remain low for years
As we are seeing, the covid-19 pandemic may not end anytime soon. The longer the pandemic impacts businesses, the more business closures and permanent layoffs will result. That could lead to a long-term recession in which it could take multiple years before we come close to pre-pandemic employment rates.
There’s also the possibility that the pandemic or another shock will burst the debt bubble, causing an economic meltdown with a wave of business closures and panic in the financial markets. The Fed has so far been able to keep the financial markets running, and I don’t see a significant risk of an economic meltdown happening in the near term.
If a major recession does occur, the period in which the Fed holds rates at the zero bound will likely be longer than what we experienced after the 2008 recession. In that case the zero bound period lasted seven years from December 2008 to December 2015. With the Fed’s new inflation strategy, it may take many years after the recession has long ended before the Fed decides to hike rates. Each year in which inflation remains below 2% may mean an additional year of inflation over 2% before the Fed decides to hike.
Future Rates and CD Term Decisions
Now that the Fed has returned rates to the zero bound, we can look to the zero-bound years from 2008 to 2015 to help predict what we’ll see in deposit rates. However, as I described above, we are seeing multiple signs that this zero-bound period will be worse for deposit rates. Nevertheless, the history of the last zero-bound years may be useful.
During the last zero-bound period from 2008 to 2015, it did become difficult to find long-term CD rates over 2%, but there were a few rare times when 3% CDs became available. PenFed’s 2013 CDs are an example.
I doubt we’ll see any 3% CDs for a while. In fact, it looks like 2% CDs will probably be non-existent for the remainder of this year. Now, it even looks like 1% CDs may soon become rare.
These sub 2% and sub 1% CDs could change in 2021 if a strong recovery does take place even if the Fed remains at the zero bound. If scenario #1 occurs and we see a strong economic recovery, banks and credit unions will likely see a surge of loan demand which will require deposits. That will lead to higher CD rates and more CD specials even as the Fed holds rates at zero. A rising stock market also helps this process as investors move their money from cash to stocks.
With at least some possibility of 2% CD specials in 2021 (3% looks unlikely now), locking into long-term CDs with rates near 1% doesn’t seem like a good strategy. If we do start to see 2% CDs in 2021, it’ll be better to keep cash in online savings accounts, reward checking accounts, or no-penalty CDs. Then you’ll be able to jump on those CD specials when they appear.
Long-term CDs now only make sense if we’re headed back into a long period of very low rates. In that case a 1% long-term CD will be better than a top savings account with a rate under 0.50%.
During the zero-bound years from 2008 to 2015, online savings account rates remained in a range of 0.70% to 1.00%. Thus, there was little to gain with CDs that didn’t have yields higher than this. I’m afraid it looks likely that we are going to see a lower range this time. As I mentioned above, today’s online savings account rates are already falling below the low end of this range.
It’s wise to remember that no one can predict future interest rates. So if you want to keep things simple, a CD ladder of long-term CDs is always a useful strategy for your safe money. If you’re worried about being locked into a low-rate CD if rates start rising, choose long-term CDs with early withdrawal penalties of no more than six months of interest.
Another option for your CD ladder is a ladder of short-term CDs, such as those with 1-year terms. Since many 5-year CDs have equal or lower yields than 1-year CDs, the 5-year CD ladders don’t offer much advantage. Of course, 1-year CD ladders don’t offer the rate lock which may be beneficial if rates keep falling.
CD Rate Trends
The above graph shows the rate trends of the average CD rates. These average rates are based on all the rate data that we have collected over the years. This is an interactive graph. You can choose the term of the CDs (from 3 months to 5 years) and the look-back period (from 3 months to 5 years).
As you can see in the graph, average CD rates for all terms plunged from March through September. The average rates for CDs with terms of 18 months and longer are now at 5-year lows. The previous lows occurred five years ago in September 2015. Shorter-term CD rates are still a little above the lows from five years ago. The average savings account rate (0.173%) is also at a 5-year low. The previous low was 0.177% in December 2016.
Safety of the Banking System and Your Deposits
Even though the banking industry is in a much better position now than it was in 2008, the crisis is stressing the financial system. Weak banks and credit unions will have a higher chance of failing over the next year. Thus, this is the time to be extra careful that your deposits are within the FDIC and NCUA limits.