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Exhausted from Low Savings Account Rates? Consider 5-Year CDs

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It has been 9 years already of making virtually nothing from savings account rates.  Even with the best rates recently moving up to the 1.05% – 1.25% range as the Federal Reserve has raised the Fed funds rate, cash has been a frustrating asset class for many years now.

Many retirees and others who depend on appreciation of their cash not just to live, but to keep pace with real inflation, have begun to throw in the towel.  They have largely moved to riskier asset classes such as municipal bond funds and high yielding dividend stocks. 

I do not dispute the importance of dividend stocks in a balanced portfolio.  Verizon, Exxon and the major European pharmaceutical stocks pay fantastic dividends.  Even if you believe that the stock market is overvalued and ripe for a significant correction as the world begins to grapple with the consequences of an unstable US President, you probably should have some exposure to high yielding equities.

Your exhaustion with low savings rates, however, should not lead you into municipal bonds or municipal bond funds, Treasuries or virtually anything tied to a fixed rate of return over the long term (certainly not annuities, etc.).   If and when interest rates move up, these things will be slaughtered (and, may even become illiquid).

Instead, look to 5-year CDs.   A 5-year CD paying 2.30% provides about twice what leading online savings rates are paying at the moment.   Buying one with a 6-month early withdrawal fee, and reasonable certainty that the bank will honor it (read this article for more information on the risk to early withdrawal fees) will provide significant returns in today’s market and will also likely yield roughly about as much as an online savings account were you to redeem it early after, say, 12 months or a 1-year CD.  Most important,, you will have the option to hold it for the remaining four years and continue to make 2.30%.   And, equally importantly, you will not be slaughtered.

Key takeaway: Look at the early withdrawal fees on 5-Year CDs.  While EverBank’s fees are excessive, other major online banks have early withdrawal fees geared to match between six months and 1 year of interest.  

In sum, a number of 5-year CDs offered by leading FDIC-insured banks have 6 month early withdrawal options that provide the best and safest investment options for those who need steady and above-market interest rates. 

Easing Back Into CDs

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My article late in 2016 on BestCashCow about avoiding CDs longer than 1 year as well as CD laddering strategies got a fair amount of feedback and stirred more than a little controversy.  After all, BestCashCow is a website largely about CD rates that make money, and it is counter to the website’s owners’ interests for its chief economist to lay down such a position. 

Nonetheless, I am glad I took the position when I did.  It was the right position at the time.  Since CD rates have improved quite sharply over the last 2 months, I will moderate this position a bit now.  My reasoning is that the US faces a dramatically uncertain economy over the next several months, a stock market that has run far too high, and a President who, having successfully engineered a coup d’etat, is volatile and unchecked by a Republican Congress.   As a result, we well may see the Fed wind up having to lower rates again.  This could, indeed, be a good time to hedge your bets a little with CDs.

First, long CD rates have started to increase a bit.  We are seeing national rates on the 5-year as high as 2.30%, and even higher at banks and credit unions in some locations [hyperlink: local table].  These rates are very close to matching the highest 5-year CD rates that we’ve seen over the last 6 or 7 years.  At the end of 2016, when the 10 year US Treasury was below 2.00%, so too were the best 5-year CDs.  If the 10-year US Treasury falls again, so too will 5-year CDs.

See 5-Year national CD rates here, and local rates here.

Here is my caveat, nonetheless, about 5-year CDs.   I have stated this before and I will state it again.  Over more than nine years now, CD rates have remained extremely low.  At some point, they will go up, but probably not for some time still.  Therefore, we recommend that you look for CD accounts that have early withdrawal penalties of no more than 6 months. A small penalty protects you should rates go up (or should you have a life event which causes you to need to money early).  A 5-year CD which pays 2.30% and has a 6 month early withdrawal penalty of 6 months of interest will still yield 1.15% if it is terminated in 1-year, after payment of the penalty.  This matches the rate you would receive from pure savings accounts, and therefore you can view the 5-year CD as offering an attractive option.

It is important to note, as BestCashCow has, that your customer agreement will state that early withdrawal is at the discretion of the bank.  While we are not aware of any major online bank refusing early withdrawal with payment of the penalty fee, there have been instances where smaller banks and credit unions have denied requests for early withdrawal.  

It is also important to note, as well, that Synchrony Bank, which offers a 2.30% 5-year CD rate nationally recently changed its terms from 6 months to charge 1 year’s interest as an early withdrawal fee on this product.  This product is, therefore, substantially less attractive than it was 2 years ago when Synchrony last offered it at 2.30%.  The early withdrawal changes do not apply to products purchased previously, but will apply if you renew or auto-renew your CD.   Early withdrawal penalties of over 1 year’s interest on a 5 year CD, such as that of EverBank are unduly excoriating and should be avoided.

In addition to 5-year CDs, we also find 1-year CDs somewhat more attractive than they were previously.    The best rates have gone up from 1.25% to between 1.35% and 1.45% (again, you may find higher local rates here in some markets).   As long as you purchase products that have only 3 months interest as an early termination fee, we see very little risk, but you should continue to question the value of increased yield as pointed out in this article.

Compare the best 1-year CD rates here.

As a primer, those new to CDs should read our article on the 65 questions to ask before Choosing a CD.  The article can also be downloaded as a free eBook from our eBook section at the bottom of the right column of this article.

Jumping Into A One-Year CD Is Not Particularly Compelling Here

Rate information contained on this page may have changed. Please find latest cd rates.

The best savings rates in online accounts is now in the 1 to 1.05% APY range.  You may find a higher rate here on BestCashCow.  You may also find a higher rate in brick-and-mortar banks or in credit unions.  To boot, some brick-and-mortar banks are offering short-term incentives for current depositors to bring new money (for example, HSBC in New York is currently offering existing depositors a 5-month CD rate on new money of 1.30%).

Against this backdrop, online banks (and offline banks too) are offering one-year CD rates of 1.25%.   Again, you may find a higher rate here.

If you were to purchase a 1.25% 1-year CD with $250,000, the maximum insured by the FDIC or the NCUA in an individual account, your 20 basis point increase over the 1.05% savings rate would amount to an increased pre-tax yield of $500 over the coming 12 months.

Interest rates on savings and money market accounts are not coming down in 2017 and are quite likely to increase.  Even if they were to stay constant, $500 pre-tax is a small sum to receive for sacrificing your liquidity.  Opt for online savings over online 12-month CDs here.