The Fed Opens Door to Rate Cuts - Rate Predictions & CD Strategies

The Fed decided to hold steady on rates, but it did make an important change to the FOMC statement which opens the door to future rate cuts. The Fed removed the “patient” sentence and replaced it with the sentence that states the Fed “will act as appropriate.” The following are excerpts of today’s statement and May’s statement that shows what replaced the “patient” sentence:

May 1 FOMC Statement excerpt:

In light of global economic and financial developments and muted inflation pressures, the Committee will be patient as it determines what future adjustments to the target range for the federal funds rate may be appropriate to support these outcomes.

June 19 FOMC Statement excerpt:

In light of these uncertainties and muted inflation pressures, the Committee will closely monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion, with a strong labor market and inflation near its symmetric 2 percent objective.

Not all FOMC voting members agreed to hold steady on rates. According to the statement:

Voting against the action was James Bullard, who preferred at this meeting to lower the target range for the federal funds rate by 25 basis points.

This was the first time that there was not a unanimous decision since 2017.

In addition to the statement, the Fed released an updated summary of economic projections (SEP). In the first table of this summary, you can see the Fed’s economic projections for future years and how they compare to the Fed’s March projections. For GDP and the unemployment rate, there were no forecast downgrades. There was a slight increase in the 2020 GDP forecast and slight reductions to the forecast unemployment rates for 2019 through 2021. With forecasts like this, you can see why the Fed decided to hold rates steady at this meeting.

The largest change from March in the economic projections was in the PCE inflation forecasts. There were large cuts in the forecast for 2019 and small cuts in 2020 for both PCE inflation and Core PCE inflation. Low inflation forecasts will make it easier for the Fed to cut rates in the future.

Fed’s Dot Plot

At the bottom of this first table, the forecast most interesting to savers is the projected federal funds rate. The median projected federal funds rate for 2019 did not go down from March. The majority of the Fed do not think there will be a rate cut in 2019. However, the median projected federal funds rate for 2020 did go down from March, falling 50 bps. In March, the majority of the Fed anticipated one rate hike. Now the majority is anticipating one rate cut in 2020.

The most significant thing to note in the dot plot is the number of participants who are now anticipating rate cuts. In March, no participant anticipated rate cuts in 2019. Now there are eight participants anticipating one or more rate cuts in 2019. Eight other participants are anticipating no change in rates, and one is anticipating one rate hike. This resulted in the median remaining at “no rate change.” If one additional participant had moved to the rate cut group, the median would have gone down.

Press Conference

Fed Chair Jerome Powell’s press conference reinforced the Fed’s move toward a future rate cut. The Fed Chair said that the “case for accommodation has strengthened.” When asked why the Fed didn’t cut rates today, the Fed Chair said that “it would be better to see more [data] before moving.”

I think there is still a reasonable chance that the Fed will again hold rates steady at its July meeting. For that to occur, we’ll need to see strong economic data such as a strong June jobs report that will be released on July 5th.

Federal Funds Rate Futures

The Fed Chair may be saying it will depend on the data, but the markets think the signals are clear: a July rate cut is a sure thing. That’s according to the federal funds rate futures as shown by the CME FedWatch Tool. The futures are showing odds of a rate cut at the July meeting of 100% (69.8% chance of a 25-bps rate cut and 30.2% chance of a 50-bps rate cut).

The futures are showing odds of 67.4% that the federal funds rate will be at least 75 bps lower by the December meeting. After the March Fed meeting, the futures were showing odds of 35.5% of just one rate cut by December. That went up to 52% after the May Fed meeting. Now the odds are 100% of at least one rate cut by December.

Future FOMC Meetings

The next three FOMC meetings are scheduled for July 30-31, September 17-18, and October 29-30. The September meeting will include the summary of economic projections. All meetings now include a press conference by the Fed Chair.

What Savers Should Expect in 2019

Online Savings Account Rates

The target range of the federal funds rate is 2.25% to 2.50%. This is the upper range of the current online savings account rates. The well-established internet banks like Ally and American Express have online savings account rates just below this range while the newer internet banks that are being more aggressive have rates that are at the top of this range. These internet banks include Rising Bank, WebBank, Vio Bank and Comenity Direct.

I’m afraid it looks very likely that the Fed will soon be cutting rates. Once the Fed starts to cut the federal funds target rate, it will only be a matter of time that we will see cuts to the rates of online savings accounts. To estimate how quickly rates will fall, I reviewed my weekly summary data from 2007, when the Fed last transitioned from a pause to a rate cutting phase.

The last Fed rate cycle began on June 30, 2004 when the Fed began a long series of rate hikes. The last of these rate hikes took place on June 29, 2006 when the federal funds target rate reached 5.25%. The federal funds target rate remained at 5.25% until September 18, 2007. On that date, the Fed cut the rate by 50 bps to 4.75%. The Fed continued to make cuts until the federal funds target rate reached a bottom, a range of 0% to 0.25%, on December 16, 2008.

I looked at how savings and money market rates declined after the first Fed rate cut on September 18, 2007. Using my 2007 weekly summary data, I tracked the average yields of 20 rate-leading online savings and money market accounts before and after that first rate cut. Just before the Fed rate cut, the average of those 20 savings and money market accounts was 5.24% APY. By the end of October 2007, the average had fallen 25 bps to 4.99% APY, and 16 out of the 20 accounts had rate cuts.

In summary, when the Fed starts cutting rates, online savings account rates will certainly fall. There will be some lag, but as history shows, expect cuts within a month or two after the Fed rate cut.

CD Rates

As we have seen in 2019, CD rates can fall even when the Fed is holding rates steady. One thing that tends to lead CD rate changes is changes in Treasury yields, and Treasury yields have been on the decline since November. On November 8, 2018, the 10-year and 5-year Treasury yields were 3.24% and 3.09%, respectively. After the last Fed meeting on May 1st, the 10-year and 5-year Treasury yields were 2.52% and 2.31%, respectively. Now, the yields are much lower at 2.03% and 1.77%. In less than eight months, the 10-year yield fell 121 bps and the 5-year yield fell 132 bps.

Brokered CD rates are the first deposit products that respond to Treasury yield changes. Like the Treasury yields, brokered CD rates have plummeted since November. The top 5-year brokered CD rate was 3.60% last November. As of last Tuesday, it’s down to 2.50%. That’s a fall of 110 bps.

Direct CD rates from online banks and credit unions haven’t fallen as much as Treasury yields and brokered CD rates, but we have started to see an increasing number of rate cuts, and the size of the rate cuts have been growing. Based on today’s Fed meeting and its removal of the “patient” language, CD rate cuts will almost certainly accelerate.

Deposit Account Strategies

Since we are likely at the rate cycle peak, I think it makes sense to look at long-term CDs. Many savers avoided these in 2018 as rates were rising. It’s no longer the time to avoid them. If you had suspended your CD ladders by not re-investing maturing CDs into new long-term CDs, it’s time to continue with your CD ladders by investing those funds back in long-term CDs.

You can still get 3% yields on today’s mid-term and long-term CDs at a few online banks and credit unions, but they’re becoming harder to find. I wouldn’t be surprised if they become rare before the end of July.

If you are worried about locking money into long-term CDs, look for 5-year CDs with early withdrawal penalties (EWP) of no more than six months of interest. A few online banks that have competitive 5-year CDs with EWPs like this include Ally Bank, Barclays, PurePoint Financial, Colorado Federal Savings Bank and Citizens Access. To see how the EWP affects the yield when you close a CD early, please refer to our CD Early Withdrawal Penalty Calculator.

Add-On CDs

If you have CDs that won’t be maturing until later this year or next year, consider add-on CDs with long terms. Open the add-on CD now and you will lock in today’s CD rate until the CD matures. If rates fall by the time your current CDs mature, you can fall back on that add-on CD by making additional deposits into the add-on CD. Those additional funds will then begin earning that same CD rate that was set when the add-on CD was opened.

One noteworthy 5-year CD that continues to be available is the 60-month Promo Jumbo CD at GTE Financial Credit Union which earns 3.30% APY for a $100k minimum deposit. What makes this especially noteworthy is that it allows unlimited add-on deposits. There’s also a non-Jumbo version with a lower rate (3.04% APY). Its minimum deposit is only $500.

The other add-on deposit 5-year CD that’s nationally available is the 5-year Growth Certificates at Mountain America Credit Union (MACU). Unfortunately, the rate has recently fallen from 3.10% APY to 2.95% APY. In late 2018, this rate had been as high as 3.51% APY. There’s only a $5 minimum initial deposit. The main downside to this add-on CD is a maximum balance of $100k (in any one or combination of Growth Certificate accounts). MACU allows members to add money to their Growth Certificates at anytime. The account also requires an automated monthly deposit of at least $10.

The new internet bank, Rising Bank, offers two add-on CDs. These are called Rising CDs, and they have terms of 18 months and 3 years. For add-on CDs, the longer term ones are best for hedging bets on interest rates. The 3-year Rising CD currently has a 2.80% 2.87% APY. Unfortunately, it has a high minimum deposit requirement of $25k. There’s a maximum balance of $500k, which is an important limitation to note. Another important limitation is that you are allowed to make no more than two additional deposits during the term of the 3-year Rising CD, and each deposit must be a minimum of $5k. [Update 6/20/19: Rising Bank's 3-year Rising CD APY fell 7 bps today.]

The 3-year Rising CD also provides two options to increase the rate if the 3-year Rising CD rate should happen to rise. I don’t consider that an important feature, especially in our current environment. It’s not clear in the CD disclosure, but I’ve been told by a Rising Bank official that this rising rate feature is completely independent from the add-on feature. In other words, you can exercise the add-on feature without the interest-rate feature. So if the CD rate falls, you don’t have to worry about your CD rate falling when you make the add-on deposit.

The above rates are accurate as of 6/19/2019.