Third Fed Rate Hike of 2017 - What Savers Should Expect in 2018

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Third Fed Rate Hike of 2017 - What Savers Should Expect in 2018

The Fed moved as expected by raising the federal funds rate by 25 basis points. This is the third Fed rate hike of 2017 and the fifth rate hike since the Fed started to raise rates in December 2015. 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 1-1/4 to 1-1/2 percent. The stance of monetary policy remains accommodative, thereby supporting strong labor market conditions and a sustained return to 2 percent inflation..

Two Fed officials voted against the rate hike. Chicago Federal Reserve President Charles Evans and Minneapolis Federal Reserve President Neel Kashkari “preferred at this meeting to maintain the existing target range for the federal funds rate.” Neither Fed official will be voting members in 2018.

In addition to the FOMC statement, the Fed released its economic projections which include projections for the Fed funds rate in the form of the dot plot. There is no significant change in the rate forecast from the last forecast in September. The dot plot is pretty much the same. Most participants continue to expect three rate hikes in 2018. Last year at this time, three rate hikes for 2017 was the dominate forecast, and that turned out to be correct. So we have reason to be optimistic for 2018. That’s unlike the case a year ago when we had only one rate hike in 2016 after the Fed’s December 2015 forecast had suggested four rate hikes.

Economic projections have changed since September for the better. The GDP is forecast to grow more and the unemployment rate is forecast to fall lower. However, the inflation forecast has been lowered slightly. Most participants expect PCE inflation to remain under their target of 2% in 2018. That may be an important reason that the Fed didn’t increase their forecast on rate hikes.

Future FOMC Meetings

The next three FOMC meetings are scheduled for January 30-31, March 20-21 and May 1-2. The March meeting will include the summary of economic projections and a press conference by the new Fed Chair.

How Fed Rate Hikes Impacted Deposit Rates in 2017

To predict what we’ll see in 2018, let’s review how the 2016 and 2017 Fed rate hikes have affected deposit rates.

Overall, we have definitely seen deposit rate increases this year, but I think we all are disappointed in the size of the increases. The three Fed rate hikes that occurred last December, March and June raised the target federal funds rate by 75 basis points. However, deposit rate increases have been much smaller. You can see how average deposit rates have risen this year in the following chart.

Savings Account Rates

If you look at online savings account rates at the big internet banks, rates have risen only about 25 basis points in the last year. A few examples include Ally Bank’s Online Savings Account (APY increased from 1% to 1.25%), Capital One 360 Money Market (APY increased from 1% to 1.30%) and Discover Bank’s Savings Account (APY increased from 0.95% to 1.30%).

One thing to consider is that online savings account rates never fell much below 1%. Other short-term rates were much closer to the target federal funds rate which was between 0% and 0.25%. For example, before the first Fed rate hike in December 2015, the Vanguard Prime Money Market Fund had a 0.17% yield. Yesterday, that fund yield was 1.24%. One-month T-Bill yields were similar. In December 2015, the one-month yield was 0.13%. Yesterday, the yield was 1.26%.

Competition and other factors kept online savings account rates way above of the federal funds rate during the years of the zero interest rate environment. As we’ve seen this year, the difference between the federal funds rate and internet savings account rates is narrowing. If you look back to 2006 and 2007 when the federal funds rate reached a peak of 5.25%, top online savings account rates were between 5% and 6%. Those that did offer rates above 5.25% didn’t keep that rate for long.

CD Rates

Like savings account rates, CD rates have also risen. However, long-term CD rates have increased less than short-term rates. We now have top nationally-available 1-year CD rates at 1.80% APY. That’s only one percentage point less than the top 5-year CD rate (2.80% APY).

This flatten yield curve is similar to the condition that existed in 2006 and 2007. During that time, the best 5-year CD rates were only about one percentage point higher than the top savings account rates.

What Savers Should Expect in 2018

Based on what we saw from the Fed today, 2018 should look a lot like 2017 in terms of rate hikes.

Now that the federal funds rate is closer to online savings account rates, we may see internet banks being more aggressive with their savings account rates than they were this year. So a year from now, we may see internet savings account rates 50 to 100 basis points higher than they are now. Sometime in 2018, we should see the return of 2% savings accounts.

We probably won’t see a similar rise on long-term CD rates. Conditions point to a yield curve that continues to flatten. I wouldn’t be surprised to see internet banks offer 2% savings accounts before they offer 3% 5-year CDs.

Deposit Account Strategies for 2018

Long-term CDs will continue to look less appealing as short-term rates rise faster than long-term rates. I still don’t think rates are rising fast enough to warrant giving up on CD ladders which are a tried-and-true way to invest in CDs. There’s currently not a big difference between the rates of top 3-year CDs (2.40%) and 5-year CDs (2.80%). So you may want to use 2-year and 3-year CDs instead of 5-year CDs for your ladder.

If you do choose mid-term or long-term CDs, make sure the CDs have early withdrawal penalties (EWPs) 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.

Another important thing to remember when looking back to 2006 and 2007 is that long-term CDs did prove to be helpful. Those with 5-year CDs that were opened in 2007 kept earning the high rate as rates fell in 2008, 2009 and 2010. That’s one reason to keep some of your money in long-term CDs even when they don’t provide much of a rate premium.

Lastly, you may find yourself keeping more cash in savings 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 that 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. You don’t want an internet bank that has small ACH transfer limits or slow ACH transfer speeds.


Comments
gregk
gregk   |     |   Comment #1
I'm convinced the Federal Funds rate could be 3% and we still wouldn't see a 3% 5 year CD. What a sham. We're getting ******.
#4 - This comment has been removed for violating our comment policy.
deplorable 1
deplorable 1   |     |   Comment #15
We are getting ****ed because banks could easily afford to pay us higher yields. All they would have to do is cap the account. They make a killing on credit card interest and loans to folks with sub par credit. Ever notice how those rates barely moved when interest rates went to 0%? If more people would just vote with their feet and stop accepting these sub par rates we would start moving up faster. The problem is that most people are set in their ways(particularly old folks) and they refuse to change banks and accept .01% on savings. The banks take full advantage of their stupidity.
wmtp
wmtp   |     |   Comment #17
As has been noted elsewhere, Fed policies have wound up showing the true image of a Federal Reserve "construction" operation for the economy instead of an analytical, monitoring operation with results appropriate to what's shown to be on the ground, something that's more of a scientific approach than the "'directive" approach to which the Fed seems to be taking. Possibly, given the last Recessiongodzilla the Fed figures it's best bet is to try to construct an economy along the lines it envisions. What's missing seem to be why is why is an approach of a more arbitrary, picking-and-choosing method of dealing with economic conditions better than a more scientific approach?
lenin lives
lenin lives   |     |   Comment #21
THE FED IS PURE SOVIET STYLE COMMAND AND CONTROL FINANCIAL ECONOMICS.
love the pooch
love the pooch   |     |   Comment #2
WELL I CAN ALMOST PREDICT THAT MEGA MULTI MILLIONAIRE POOCH POWELL WILL FIND A REASON TO CUT RATES AT LEAST ONCE,,,,maybe twice.....this guy is so high strung with no nerves left, he'll cut to prevent the big one.
deplorable 1
deplorable 1   |     |   Comment #9
Why do you keep thinking that Powell is going to lower interest rates? Can anyone be more dovish than Yellen? There has been nothing pointing to lower rates since Trump has been in office just the opposite. The only thing they can point to as a reason not to hike is the bogus inflation numbers. Funny how they decided to hike rates anyway though. Most likely because they know those inflation numbers don't make any sense. I predict this will be the turning point year where banks actually start hiking rates higher and faster. They need to come to grips with the fact that rates are rising and customers will start moving their money if they don't become more competitive. I think we may still see a 3% CD special on a 4-5 year term this year as there is definitely some pent up demand even if this isn't the norm. I'll take a 3% 3 year CD to top off my short term CD ladder.
#20 - This comment has been removed for violating our comment policy.
Roy Moore
Roy Moore   |     |   Comment #22
Maybe because he's a proponent of negative interest rates?
Victory Dance
Victory Dance   |     |   Comment #42
According to Powell's written theories, he believes Fed Rate should now be near 3.00. So I have no idea why you think he would cut rates. If anything he is more likely to normalize rates. Don't be shocked if rates go up a 100 basis points in 2018 instead of 75.
pattyb53
pattyb53   |     |   Comment #3
I had a Justice CU cd that matured yesterday. At first I thought I might hold on to the money & wait for something special to pop up, but no. I have a couple add-on CD's with good rates. 1st United with a 3% & GED 2.78% rate. Both maturity dates are 2020, the 3% is latest but I plan to go ahead and add-on to this.
Robb
Robb   |     |   Comment #5
The rate hike greeted today by a thud in the 10 year note which fell from about 2.4% down to 2.34%. Rates are quite low in many overseas countries which I think is helping to keep a cap on our long rates to some degree. The German Bund for example is yielding .31%.
Robb
Robb   |     |   Comment #6
Reference above is to the 10 Year German Bund currently yielding .31%.
deplorable 1
deplorable 1   |     |   Comment #7
I wonder if this will finally force Ally demand notes to raise their interest rate. They used to match 5 year CD's back when it was GMAC demand notes. Five FED hikes later and they are still at their lowest rate in 30 years with no movement. This is very frustrating as I use it as a bill pay account for liquid cash. No way I'm jumping through debit card hoops to get a decent rate on checking. Just look at Northpoint ending their 5% reward checking account(for new customers). I predict they will end it for existing customers soon as well. There needs to be some type of hybrid account that pays a MMA rate but isn't subject to the restrictive 6 withdrawal per month limit.
#8 - This comment has been removed for violating our comment policy.
#23 - This comment has been removed for violating our comment policy.
barry_NY
barry_NY   |     |   Comment #18
The real story with the FOMC meeting is the increasing reduction of the Fed balance sheet. This will tighten the money supply, forcing banks to raise interest rates to compete for fewer dollars.

The reason why big banks can pay near zero is that they are drowning in corporate money. Big companies have been shoveling profits into the banks, who don't even want their money. This is because our government has been punishing companies for investing in growth. The new tax bill will change this and encourage busniess to start spending their savings.

I should also note that I have been willing to accept 0.08% on my Chase business account because I get valuable services in return. I calculated that the waived service fee is equivalent to 1.20%. I may pull my balance from Chase for higher interest and pay them the fee instead.
deplorable 1
deplorable 1   |     |   Comment #26
Good points. Which is why I'm all for the tax cuts and the FED reducing their balance sheet. Everything that is happening now is exactly what should have been happening 6 long years ago when they first started telling us we were in a recovery. Obama and his policies were what was holding the economy back. This should be painfully obvious by now to all but the most die hard Obama apologists.
vee
vee   |     |   Comment #19
This website is hard to read. Low contrast.
Inflation_Hawk
Inflation_Hawk   |     |   Comment #27
The trailing 12 month inflation rate went up to 2.2% (from 2.0% last month).
That's the trusty CPI-U that's non-seasonally adjusted (that you inflation deniers don't like).
The current yield for a 5 year TIPS is 0.34%. That give you an effective yield of 2.54%.
The Navy 32 month add-on IRA CD beats yielding 2.75% beats that.
The now gone GTE taxable add-on CD at 2.53% ties it.
If deflation doesn't return, TIPS and iBonds are starting to look attractive.
unbelievable
unbelievable   |     |   Comment #28
do you actually put any credence in govt based inflation data and feel happy over your outsmarting the inflation demons???
Nothing
Nothing   |     |   Comment #29
#28. You ask two unconnected questions...First, what is your point as to whether or not one has credence in data...it is what it is and some believe inflation is measured by what their basket of goodies cost as compared to a previous period. And, on "outsmarting" ...that is investment strategy related to whatever data one believes in..what is your point here...do you have another approach that "outsmarts" or whatever the data is? Thanks!
LOVE THE 70's
LOVE THE 70's   |     |   Comment #31
COMS 29 AND 30,,,,see michael t. snyder 25 jun 2014 article on inflation numbers for the blog,,,,the economic collapse,,,,,,one of the best articles on govt fraudulent data,,,if you read it you will see why and get smart. i am trying to enlighten you grad students still in school,,,,,, IS IT AGAINST THE LAW TO ASK 2 UNCONNECTED QUESTIONS? LASTLY, MISCHARACTERIZATION SEEMS TO BE A COMMON VIRUS SHARED BY MANY OF MY RESPONDENTS,,,,,it;s your problem not mine,,, FOR INSTANCE,,,,,the 70's are routinely described as a horror of inflation,,,,for the consumer and the job hopper things were never better, for the corporate suite,,,it was a nightmare,,,,i spent the decade in the labor economics trenches,,,,,corporate chiefs went insane with skilled employees chasing the dollar and routinely getting 25 percent increases on a job change,,,,,we chased the dollar and split over nickel increases becuase of wage and price controls that began in 72.....IT WAS A GREAT TIME TO HAVE JOB MARKET SKILLS AND BE A HUMBLE CONSUMER.
PHONEY GOV'T DATA
PHONEY GOV'T DATA   |     |   Comment #40
IN JANUARY 2001,,,THE FED BEGAN IT'S REIGN OF TERROR,,,A SYSTEMATIC AND DELIBERATE DESTRUCTION OF THE MIDDLE CLASS WITH DESTROYING SIMPLE DEPOSITOR RETURNS AT THE BANKS. DUBYA WAS INSTALLED, SON OF GEO HW,NEW WORLD ORDER BUSH,,,,nwo-globalism-communism, privatized profits for the top 2 percent and socialized losses for everyone else. HENCE THE FED GAVE UP ANY PRETENSE TO BE RATIONAL, SCIENTIFIC AND LEGITIMATE. the federal reserve economics like so many complicated religions is pure fantasy gibberish with zero relativity to the real world, except to stupefy the wall street bought dc govt and serve wall street financial engineering. IF ANYONE CAN FIND A BETTER ARTICLE ON THE GOVT'S PHONEY INFLATION DATA,,,,POST IT....there was an older article but it eludes me,,,,this refers to com 31,,,,,love the 70's.
Inflation Hawk
Inflation Hawk   |     |   Comment #30
Ya, I actually do believe that the BLS's measures of inflation accurately measures inflation for the stated purpose of the CPI-U. It's the consumer price index for all urban consumers.

But then I've actually looked at how they derive the numbers. Something you "inflation deniers" don't bother doing. I suppose, ignorance is bliss.

It's not supposed to represent your personal inflation. Only you can do that. Since the bonds I'm interested in use the CPI-U, that would be a genuine waste of time.

As far as beating inflation goes, when you buy a CD your locked into that rate for the term of the CD. You don't really know if you've beaten inflation until after maturity date.

Those 2.53% and 2.75% CD's I mentioned will only have beaten inflation if inflation averages below those rates for the term of the CD. That's a crapshoot.

The current iBond fixed rate is 0.1%. That means iBonds are guaranteed to beat inflation as measured by the CPI-U by that much.

The current 5 year TIPS yield on the secondary market is 0.35%. That means if you hold the TIPS bond to maturity, you're guaranteed to beat CPI-U based inflation by that yield.

What I feel happy about is that in my first full year of retirement my cash assets only went down around 26K. If I can keep that up, won't go broke until we're 100.

That's without modifying my lifestyle choices that much. Still do a couple of major vacations a year. Eat out. Cover my wife's gambling donations to the local tribe's casinos.
#32 - This comment has been removed for violating our comment policy.
CuriousDave
CuriousDave   |     |   Comment #37
For some people living in states with high individual tax rates, it may make sense to invest in very short term treasurys. For instance, as Ken points out, one-month T-Bills are yielding 1.26%. Factoring in the state tax savings in a high rate state like California, with top brackets in excess of 10%, the equivalent pre-tax rate is around 1.40%, which compares well with the highest savings account rates. 6 month T Bills are also competitive in high-tax states, with an equivalent yield of about 1.65%.
sleep well
sleep well   |     |   Comment #38
com 37.......i like people of low expectations that are easily satisfied.
iamaroc
iamaroc   |     |   Comment #41
It's tough to blame the banks when you understand the state of world banking. An ongoing problem for U.S. savers is that banks don't need to raise long term rates very significantly as foreign savers continue to flood U.S. banks every time long term rates rise even slightly. This is due mostly to the extremely low rates offered throughout the world. Things probably won't change any time soon. In the meantime, I will continue to be a rate shopper mostly with internet banks.
DPump
DPump   |     |   Comment #43
Maybe the issue is that the banks raise the rates on loans and mortgages immediately, but the savings and CD rates take 6 months if ever. We, with money to invest are not lost on this. I have a BIG safe. When the banks crash, they can't cancel my deposits.
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