With Richard Barrington, Senior Financial Analyst for MoneyRates.com
When Interest Rates Rise, Bank Do Well, But Consumers Don’t
Since 2015, the Federal Reserve has raised interest rates seven times. So, why is it that the interest on your savings account has only risen 0.01 percent, but mortgage and credit card rates have jumped 1.52%?
Banks do well when rates rise but consumers don’t. To find out why and see if you can do better, Steve speaks with Richard Barrington, Senior Financial Analyst and personal finance expert at MoneyRates.com.
Richard says banks are quick to pass on higher expenses to consumers but slow to pass on the benefits. For instance, though the Fed Funds rate was increased to 1.50 – 1.75 percent in March 2018, big banks pay no more than a third of one percent on savings accounts, on average.
Consumers like the safety of savings accounts. But at 0.3%, money in such accounts steadily loses value relative to annual inflation of about 2%. This false sense of security significantly erodes the buying power of consumer capital over a span of 20 or 30 years.
Don’t Be A Frog In Boiling Water
Steve likens this false sense of safety to a quirky tale about a frog in a pan.
A myth from the 19th century says that if you put a frog in a pot of boiling water, it will react and immediately try to escape. However, what happens if you put a frog in cool water and very gradually heat it up? The frog will be stuck in the comfort of its surroundings and stay complacent until it is too hot and too late.
While modern science has proven that this is not the case, this myth serves as a brilliant metaphor for our own behavior.
When we land in hot water, we usually react to the metaphorical heat and do something to protect ourselves. However, if our environment slowly worsens at barely noticeable increments, we can get stuck in the comfort of our surroundings and neglect to challenge the status quo. Making a choice to change our familiar surroundings is difficult. It’s especially difficult if we are unaware of the slippery slope of the existing environment.
Therefore, it’s important that consumers increase their level of investment risk to at least keep up with inflation.
Bank Online For Higher Savings
Richard says the biggest gulf is between online accounts and traditional branch-based accounts. On average, online savings accounts pay just over nine-tenths of 1%. That may not sound like a lot, but it’s 15 times more than the average interest on branch-based savings accounts.
Branches do offer a level of service that online banks don’t. However, consumers must look at their own banking behavior to see if the lower interest they earn is justified. For instance look for convenience features. This includes automated bill pay, debit cards, and ATMs. These features make it much easier for consumers to do all their banking without walking into a branch.
Banks That Offer The Highest Savings Rates
At the end of the first quarter of 2018, MoneyRates found ten banks that offered savings rates of 1.3% or better. Rates have now risen to about 1.85%. Therefore, Richard recommends shopping online for the best interest rate on savings accounts.
Online banks are also FDIC-insured and free consumers from the limited choices offered by local banks. But before you bank online, read the bank’s reviews, check out their website’s ease of use and hidden fees, and look up FDIC’s BankFind database to make sure your money is insured.
Disclosure: The opinions expressed are those of the interviewee and not necessarily United Capital. Interviewee is not a representative of United Capital. Investing involves risk and investors should carefully consider their own investment objectives and never rely on any single chart, graph or marketing piece to make decisions. Content provided is intended for informational purposes only, is not a recommendation to buy or sell any securities, and should not be considered tax, legal, investment advice. Please contact your tax, legal, financial professional with questions about your specific needs and circumstances. The information contained herein was obtained from sources believed to be reliable, however their accuracy and completeness cannot be guaranteed. All data are driven from publicly available information and has not been independently verified by United Capital.
Steve Pomeranz: Rates are rising, right? Well, who benefits and who loses? We often hear about mortgage rates going up or an increase of your interest rate on your credit card balance, but we rarely hear about the better news for depositors. So I have asked Richard Barrington, Senior Financial Analyst for MoneyRates.com to join us today.
He studies and writes about this all the time. So let’s ask him what’s going on. Hey, Richard, welcome to the show.
Richard Barrington: Well, it’s great to be here, Steve, thank you.
Steve Pomeranz: So the Fed keeps raising rates and has signaled that it may continue to do so. Are all depositors benefiting from these rising rates?
Richard Barrington: Generally speaking, yes, but some much, much more than others.
Steve Pomeranz: Yeah, so that’s the thing. So we all have our checking accounts at our banks and maybe some of us have savings accounts. And I think, generally, we tend to bank at kind of the bigger money center banks.
Yet, I do see a little bit of an increase on what I’m earning in my checking account, but it surely isn’t that much. What is the average rate, would you say, that a big money center bank is giving us these days?
Richard Barrington: Okay, well, large banks on a savings account, the average is about a third of 1%. And that’s in line with what the average is, overall.
Steve Pomeranz: Mm-hm.
Richard Barrington: The real difference is not so much a difference in terms of size, if you want to talk about categories. Really, the biggest gulf is between online accounts and traditional branch-based accounts.
Steve Pomeranz: Okay, all right, so I think we’re getting to the point where we’re going to say that online accounts will pay more. So we want to talk about that, but before we get into that, you made some points in your talking points with me that year-over-year inflation is running at 2.4%. And most savings account rates are trailing by more than 2%. And yet, savers go to these accounts because they feel that their money is safe there, but is it safe?
Richard Barrington: Well, that’s absolutely right. When you’re losing ground to inflation at a pace of 2% a year, as you know, over time with compounding, that kind of deficit can really erode the purchasing power of your savings by the time you get to retirement or as you live through your retirement years. And so people are steadily losing value, which is kind of ironic, given that they turn to these accounts, savings accounts, CDs, money market accounts, because they assume that they are 100% safe.
Steve Pomeranz: Yeah.
Richard Barrington: But if you settle for really on average rate, you’re going to be steadily losing value to inflation.
Steve Pomeranz: I’ve been saying this for years, for 35 years I have been saying this. [LAUGH] I often mention the parable of the frog in the frying pan. Have you ever heard of that parable?
Richard Barrington: Yes.
Steve Pomeranz: Okay, well, good ‘cause a lot of people have not, so I’m going to say it really quickly.
So there’s this frog, and he’s in a frying pan, and he’s swimming around in the water. And it’s nice and warm, the water feels really good. And everything is fine, and he goes on and on and on. And all of a sudden, he’s cooked, he’s done, he’s dead.
And the moral of this story is that, while you may feel safe in these savings accounts earning your 1%, or your 2%, or whatever, relative to inflation, at some point in the future, you’re cooked. You realize one day, hey, I don’t have enough money to do what I need to do because my cost of living has risen well past the ability of my savings to keep up with it.
And that’s what you’re talking about. So this safety, while you feel, hey, it’s not in the stock market. It’s not in real estate, it doesn’t go up and down. And I have to watch it on TV or on my phone all the time. Yet, the potential for better returns comes with that uncomfortability.
Safety is not necessarily what you find in the bank. All right, so I’m done with my sermon. Let’s get down to what really is going on here. So according to you, the average credit card balance is now charging 1.52% more in annual interest. So if you have a credit card balance, that interest has gone up.
Meanwhile, the average savings account rate has only risen by 0.01%. So clearly, consumers are getting the worst of the rising rate environment. So tell us how they can maximize the return on their savings.
Richard Barrington: Right, and yeah, that’s very true, is it’s kind of like prices at the gas pump. When oil prices rise, gas companies waste no time in raising the price of gasoline. When oil prices fall, you’ll see the price at the pump slowly meander down. And that’s one of the ways that big corporations maximize and protect their profits. It’s no different with banks.
If interest rates are rising, they’re going to raise their rates fastest and most on the things that they charge customers for, things like mortgages and credit cards. When it comes to them paying you interest, they’ll be a lot slower to raise rates.
Steve Pomeranz: Mm-hm.
Richard Barrington: Fortunately, though, there are over 5,000 FDIC-insured banks in this country and that gives consumers a great deal of choice. And what we’ve seen, especially over the past year, is a handful of banks that I like to kind of think of as rebel banks breaking away from the pack.
Steve Pomeranz: I like that [INAUDIBLE]
Richard Barrington: That have started raising rates much more decisively than the average rates.
Steve Pomeranz: Okay, well, in a little bit of defense of these brick-and-mortar-type banks, they have a lot of overhead, a lot of personnel, a lot of embedded costs, legacy costs. And they really have to kind of squeeze out as much profit as possible. But I think the other way to think about this, too, is that, so on these banks, maybe as the saver, you’re not doing so well.
But maybe as a shareholder, you’re doing okay because the profits are going up in these banks. And therefore, that should relate to higher stock prices sometime in the future. So maybe a person could consider also being a shareholder of one of these institutions, as well as a saver.
All right, let’s move on, so let’s get to the online thing. So online banks really don’t have those embedded costs. So what are some of the rates that they’re paying their depositors?
Richard Barrington: Well, on average, online savings accounts are paying just over nine-tenths of 1%. That may not sound that exciting, but that’s better than 15 times what the average branch-based savings account is paying,
Steve Pomeranz: Okay.
Richard Barrington: Which is just shy of 0.06%.
Richard Barrington: And I think, you make a good point that brick-and-mortar local branches in certain situations, they certainly have the overhead you described, but they do provide service to customers in certain situations. What I think is consumers need to take a long, hard look at their banking habits.
And what with automated bill pay and with debit cards and ATMs, you have to ask yourself, how often am I actually walking into a branch anymore? And why am I paying good money in the form of earning a lower rate for the privilege of walking into a branch that I hardly ever visit?
Steve Pomeranz: Yeah.
Richard Barrington: So that’s why I think online banks are certainly worth considering. Also, besides offering higher rates, they go a long way towards breaking down geographic barriers. It used to be that your choice of rates was very limited by what banks in your region happened to be offering.
Now with online accounts generally offering the highest deposit rates, competitive rates are available just about anywhere.
Steve Pomeranz: Yeah, interesting, so let’s first say that these banks carry the FDIC insurance of $250,000. So it’s not as if, if there’s a bank in Arkansas, it’s really going to matter. A bank doesn’t have to be close by where you can actually see the edifice of the building to feel comfortable that your money is safe because these banks all are insured. Is that right?
Richard Barrington: That’s correct and you can verify that on the FDIC website. They have a very useful search feature called BankFind. It lets you look up your bank or any bank that you’re thinking about doing business with and verify that it is, indeed, an FDIC-participating bank.
Steve Pomeranz: Yeah, so this online capability is really—what is the main point here. So if you’re already paying your bills electronically, you go in every month, you pull up your FPL bill, and it’s $189. You put that in, you press a button, and the bill is paid. That’s an online service.
Or maybe you have the money pulled, FPL pulls the money from your account. And you don’t even have to go in and press the button. So if you’re already doing this, it’s only one step further for you to go online and find a bank. And then be able to transfer your money to that bank and account in your name and earn these higher rates.
So, Richard Barrington from MoneyRates.com, what are the best rates in the country right now?
Richard Barrington: Okay, well, as of the end of the first quarter, we found ten banks that are offering savings rates of 1.3% or better. The very tip-top is an online account from Salem Five Direct that is at 1.58% or, at least, that was its average during the first quarter. With rates going up, some of these rates may actually be higher. And it really is at the top of the pack. And besides considering online banking, I would encourage people to shop actively for rates because rates at the top of the list are rising much faster than average rates are rising. So for consumers, that means the cost of settling for average is getting steeper all the time.
Steve Pomeranz: All right, well, one bank that you mentioned on the list that you gave me here and as on your website, I’m sure, is CIT Bank. You familiar with that one?
Richard Barrington: Right, yeah, they’re a California-based bank. But again, while their branches are all in California, I believe, they offer an online account, and so they are available more broadly. They’re actually a fairly large bank, with about 32 billion in deposits.
Steve Pomeranz: So according to the sheet you gave me, the rate was 1.75, but I went online today, and I saw that the rate was 1.85. So that is way above what you’re seeing even kind of on the average. Hey, Richard, we are out of time, but we will post your link on our website so people can go in and go check it out. And you’ve got a full range of banks, and I guess links to those banks and so on. So I’m sorry that we are out of time, but I wanted to get this information out there. And thank you so much.
Richard Barrington: Great, well, thanks for talking to me.
Steve Pomeranz: If you want to hear this again, if you want to read about this and get those links that we talked about, don’t forget to go to stevepomeranz.com.
And don’t forget, also, to sign up for our weekly update, where we send out all of the segments that we do with transcripts, summaries. So you can read it, listen to it, we also podcast. All of this is available at stevepomeranz.com. Thanks again, Richard.
Richard Barrington: It’s been a pleasure, take care.