Economic Growth and Inflation Key to Higher CD Rates
The key to higher CD rates will be a strengthening economy and a higher fed funds rate. We have had many starts when it appeared economic growth would take off but an event would impede growth. Now that the politicians in Washington D.C. have passed annual budgets for the next two years as well as a "clean" debt ceiling hike and the rough winter is finally ending, economic growth should pick up steam.
Factory activity and spending rebounded last month from an 8 month low, pointing to an economy that is gaining strength. The Institute for Supply Management said its February PMI rose to 53.2, rebounding after slumping in January to 51.3. A reading above 50 indicates expansion in manufacturing. The Commerce Department said consumer spending increased 0.4 percent in January, which came in higher than the expected increase of 0.1 percent.
Stay Invested in Short Term Certificates of Deposit
A majority of Fed members have forecasted a need to increase the fed funds rate sometime in 2015. Soon after the fed funds rate is increased, banks and credit unions will follow by increasing their CD rates. For that reason, it isn't advisable to invest in long term CDs because you won't be able to take advantage of the rate increases expected in the future.
Another reason to avoid locking into long term certificates of deposit right now is the rate difference between short and long term CD rates is small. The highest CD rates on 5 year certificates of deposit currently are only 1.00 percent higher than the best 6 month or 12 month CD rates available. There's no incentive to tie up your capital for an extra four years for such a meager difference in returns.
Currently, the best CD rates on 5 year CDs on our rate table are at 2.13 percent with an APY of 2.15 percent. The best 6 month rate right now on our table is at 1.00 percent and the best 1 year CD rate is at 1.04 percent with an APY of 1.05 percent. For a difference so small it's definitely not worth locking into a 5 year rate. Listed below are the top 6 month, 1 year and 5 year CD rates available on our tables.
Best 5 Year CD Rates
Best 6 Month CD Rates
Best 1 Year CD Rates
Looking at the rate tables above, you can see the "yield curve" is flat between the shortest term and longest term CDs. As CD interest rates move higher over the next several years, the yield curve will steepen. Once the FOMC increases the fed funds rate, the subsequent increases will happen rather quickly, which will send bank CD rates up as well.
In December 2013, the FOMC released their member forecast for the fed funds rate. On the high end, the forecast is for the fed funds rate to be at 3.25 percent in 2015 and 4.25 percent in 2016. A fed funds rate around 3.00 percent would send 1 year CD rates to around 4.00 percent. A 4.25 percent fed funds rate would send 1 year CD rates at banks to around 5.00 percent.
One year rates haven't been that high in over 6 years, so that would be welcome news. When CD rates increase and how high they move remains to be seen, but one thing is certain - rates are moving higher. We can't stress this point enough, stay invested in shorter term certificates of deposit.
Pay attention to any CDs that are maturing, especially any long term CDs maturing. As you know, your bank or credit union will automatically roll the CD over into a new CD with the same term unless you instruct them not to. Roll over your maturing CDs into new CDs with terms of 1 year or less.
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