Global markets are continuing to reward risk and to provide very little yield in risk-free assets. While rates were expected to go up in 2016, we have seen a decline in long-term rates in the US (caused by a dramatic drop in long term rates in Europe). We have also seen rate compression in risk free assets (US Treasuries and now CDs). In 2014 and 2015, 5 year CDs offered rates as high as 2.50% APY. Now, even the best rates are closer to 2.00% APY (see the best rates here). Savings rates are barely holding constant with only a couple of the leading online rates holding above 1%. It seems that we are all starting to look like Japan where savers have been rewarded with extraordinary low interest rates for decades.
As we look at a continuation of what has become a virtual zero rate phenomenon, a handful of banks are offering 1 year CD rates at or above 1.25%. In fact, the best CD rate available online today is 1.35% with a $5,000 minimum deposit. If you have money that you are resigned to keeping in cash and that is earning 0.90%, you can easily pick up an additional 50% return by getting into a one-year CD.
Ok, I hear you. I know that the actual pick up here is pretty low. In fact, you would need to move over $222,000 from an account earning 0.90% to a CD earning 1.35% just to make $1,000 more over the next year. And, that $1,000 is going to be fully taxable at the federal, state and local levels. However, if savings rates do not rise and you continue to earn 45 basis points more by being in short tern CDs, the additional gain becomes real. As the Japanese have found, when waiting for savings rates to rise, one year quickly turns to two, and two to 10 or 20, and the value of the additional interest, when compounded, does become meaningful. Using BestCashCow’s savings booster calculator makes this clearer.
Rates may be going up, but it is clear that they are not going to be rising very fast. If you have money that you cannot keep in risky assets (such as the stock market) and that you are unlikely to need for the next year, it may be time to start shifting into 1-year CDs. If savings rates were to spike or if you need your money for an unforeseen expense, you can ordinarily get it back by paying a modest early termination penalty (Sallie Mae, Colorado Federal and BAC Florida all have penalties on their 1-year CDs that are only 3 month of interest).