May 25, 2009 Update

Last Saturday Donald Kohn, the Vice Chairman of the Fed made it clear that the Fed is in no rush to raise its benchmark rate. He said:

"The economy is only now beginning to show signs that it might be stabilizing, and the upturn, when it begins, is likely to be gradual amid the balance sheet repair of financial intermediaries and households," Kohn told a conference at Princeton University.

"As a consequence, it probably will be some time before the FOMC will need to begin to raise its target for the federal funds rate."

So savers should not expect any help from the Fed. The Fed Funds rate will continue to stay near 0% for some time, barring a sudden increase in inflation, which many believe is brewing. Everyone from Warren Buffett to Yale's David Swensen (the best performing university investment manager) feel that inflation is the big bogyman in the room.

So how does all of this play out in the savings and money market world we cover? Quite predictably actually. As the chart below shows, the average rate on short term deposit accounts (money markets, savings accounts, and 1 year cds) has continued to fall since the Fed cut rates to 0%. The drop has started to bottom and it is doubtful they have much further to go down. That makes sense since these deposit accounts are pretty firmly anchored to the Fed Funds rate. The Fed Funds rate is as low as it can go and the average savings account rate is now 200 basis points above it.

But longer-term deposit accounts bottomed out in March and beginning to rise. The average 5-year CD rate according to the BestCashCow rate tables reached its low during the week of March 27 at 3.43% APY. Today, it stands at 3.52% APY. Why the increase? Because hearing about looming hyper-inflation, investors need more of a return to lock their money up for extended periods of time. And if the inflation doomsayers are really correct, then even 3.52% APY will be a losing position. Look for rates on longer-term deposit accounts to continue to rise as long as the fear of inflation exists and as long as the Fed is printing money.    

The spread between the average savings and money market rate on BestCashCow and the average 3-year CD rate on BestCashCow has stabilized. Both savings accounts and 3-year CD rates have remained relatively flat over the last couple of weeks as we have reached a bottom. The deposit yield curver seems to have taken a breather as banks and depositors try to devine where the rate winds are blowing.  There's a good chance it will continue to steepen if long-term deposit rates continue to react to inflation fears. 

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