As the Federal Reserve strongly hints at impending interest rates this September, millions of consumers with maturing Certificates of Deposit (CDs) are facing decisions that will impact their financial returns. With CDs, savings accounts, money markets, and other liquid savings positioned to see lower returns, now is the time for savers to evaluate their cash needs, risk tolerance, and savings options to maximize their interest income.
The Impending Rate Cuts and Their Impact
When the Federal Reserve cuts interest rates, the effects will be felt across the entire financial system. For savers, this means lower interest rates on CDs, savings accounts, money market funds, and other short-term savings options. Currently, many savers have enjoyed the benefits of higher rates over the past year, some offers yielding more than 5 percent annually. However, as the Fed lowers rates, these returns will decrease.
But, unlike savings accounts or money markets, CDs allow you to lock in an interest rate for a set period. This can be an advantage if rates are expected to drop, as is the case now. By locking in a higher rate with a CD, you can secure better returns to protect your savings from the effects of pending rate cuts.
Locking in Longer-Term CD Rates
One strategy to consider is locking in a longer-term CD before rates fall. For example, while a one-year CD might offer an appealing 5 percent rate today, this CD will mature in October 2025. If the forecasts hold true, the rate for a one-year CD at that time could be significantly lower, leaving you with lower overall returns on your funds.
On the flip side, a 2- or 3-year CD at a rate of 4.5 percent today offers a more secure choice. By locking in this rate, you protect yourself from future rate declines and ensure a consistent return on your savings. This approach is also beneficial for those who do not need immediate access to their funds and are looking for stable, long-term earnings.
Reevaluating Money Market Holdings
For over a year, investors have enjoyed high returns by parking their cash in money market funds, which have closely tracked the federal funds rate. However, with short-term interest rates ready to fall, it’s time to consider alternatives to money markets, such as CDs, which offer rate stability vs. rate fluctuation.
Money market funds are typically considered safe and liquid, making them a popular choice for short-term savings. But as rates are expected to drop, the real return on these funds can diminish, especially when inflation is factored in. According to Crane Data, the average yield on the largest money market funds currently stands at around 5.1%, which is higher than inflation but still susceptible to future rate cuts.
By moving funds from money markets into CDs, you can lock in today’s better rates and avoid the potential pitfalls of a declining rate environment. CDs offer the added benefit of FDIC and NCUA insurance, which protects your deposit up to $250,000 per bank or credit union per depositor based on the ownership of the account, making them a secure option for you.
The Window of Opportunity
The window of opportunity for savers to benefit from the best CD rates is closing fast. As the Federal Reserve moves closer to cutting rates, now is the time to act. While savings accounts and money markets have their place in a diversified financial strategy, the current economic environment makes CDs a smarter choice for those looking to maximize their interest income.
FAQs
How do CD rates change with the Federal Reserve’s actions?
CD rates are influenced by the Federal Reserve’s decisions regarding interest rates; when the Fed cuts rates, CD rates typically decrease, making it advantageous to secure higher rates beforehand.
Why should I invest in a CD before interest rates drop?
Investing in a CD before interest rates drop allows you to lock in higher rates, ensuring better returns on your savings compared to lower rates that may follow.
What are the benefits of locking in a longer-term CD?
Locking in a longer-term CD can protect your savings from future rate declines, providing a stable return over a set period, which is especially beneficial in a declining rate environment.
