Last week the Fed cut rates by 50 basis points (half a percent) but, suprisingly the average rate paid on a savings account has not dropped significantly.  Going further back, it is apparant that banks have not dropped their rates as far as the Fed Funds rate and indeed appear to be diverging from the Fed.  The chart below shows the average savings rate according to the BestCashCow Savings Rate table going back to June of 2007.  

As the chart show, high yield savings rates moved in lock-step with the Fed until about January of this year.  But after that,  the Fed aggressively cut rates, bringing the Fed Funds rate down 3.5% to 1.5% today, a reduction of 200 basis points (or 2 percentage points).  Average high yield savings rates by comaprison fell from an average APY yield of 4.92% APY to 3.64 % APY as of today, a drop of only 1.28 percentage points of APY.

What does this difference mean?  The divergence is a direct product of the banking crisis.  It can be considered both a sign of desperation on the banks part as well as a risk premium banks must pay to keep your money.  If banks don't pay enough, there is little to stop their depositors from withdrawing funds and putting them into treasuries or under their mattress.  Banks are desperate to keep your cash and to attract new funds, and many are willing to pay above market rates for it.  As the chart shows, this spread is not decreasing, but seems to be increasing over time.  That means banks are getting more, not less desperate for your money.

Treasuries, which are considered a 0 risk investment have followed the Fed Funds rate down.  In October, investors poured money into treasuries as a safe place to stash cash and the yield dropped to virtually 0%.  As demand for treasuries goes up, yield goes down.

Savings accounts happen to best illustrate this trend because, along with checking accounts, they are highly liquid.  You can go to the bank tomorrow and pull out your savings account money.  Early withdrawal of certificates of deposit result in substantial penalties.

What does this mean to you? 

• High yield savings accounts and high yield cds offer a premium over other types of "safe investments."  With the FDIC increasing coverage to $250,000 per person per institution they are a better place to stash money than Treasuries.
• Banks are still not out of the woods.  Until we see the savings account risk premiums begin to come down, expect to see more banks fail.

View the top high yield savings accout rates.