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What Exactly Is Up With Interest Rates These Days?

Richard Barrington, Interest Rates

With Richard Barrington, Personal finance expert for Money-Rates.com

Interest Rates And The Federal Reserve

Interest rates as set by the Federal Reserve and how they play out in the banking deposit market are the topics of today’s conversation with Money-Rates.com‘s personal finance expert Richard Barrington.  First up is what is going on at the Fed, and how that is affecting what Steve calls the “pathetically low” interest rates offered by money market funds, CDs, and savings accounts.  Are the Fed’s three highly cautious 0.25% increases in the prime rate over the past year and a half being reflected with parallel rises in these consumer accessible rates?

Bad Economic Data From March 2017 Released

Steve starts out by asking Richard why it has taken the Fed so long to begin an evidently slow march to higher rates.  Richard’s response is a case of giving the bad news first: based on economic data that came out in April 2017, there’s a strong possibility that this slow march will be getting even slower.  Specifically, the GDP, inflation, and job growth numbers were all disappointing, suggesting a retreat from gains made during the past year.  His concern is that Fed Chairman Yellen, who has more than earned her bona fides as a conservative helmswoman when it comes to raising rates, will retreat from her recent modest tightening and once again elect to keep rates extremely low, a position which hurts savers while helping borrowers.  The fact that rates have been kept abnormally low during an eight-year economic expansion—one that’s already lasted two more years than is typical—not only indicates an “abundance of caution” by the Fed but also underlying dysfunction in the economy, a lack of demand.

The Fed’s Target Rate For Inflation Higher Than Data Suggests

Picking apart the inflation stat and elucidating why it is so important and potentially “spooky” to the Fed, Richard notes that after showing some signs of bubbling up, it fell by 0.3% in March 2017, signaling very slow growth in the economy.  The Fed’s target is a 2% inflation rate, and along with the unemployment rate, which had also been showing signs of new life until the April numbers were released, the two constitute the Fed’s main objectives.  Richard compares the attempt to increase inflation to 2% to reviving a monster in a horror film: be careful what you wish for.  Steve reminisces about the punishing double-digit interest and inflation rates in the late 70s and 80s and opines that today’s situation is almost the exact opposite—neither were signs of economic health.

Low-Interest Rates For Savings Accounts & Money Market Funds

Fed interest rate policies have an overwhelming impact on the rates that depositors and investors can earn from money market funds, CDs, and savings accounts.  Richard’s employer Money-Rates.com provides extensive data about current rates for all manner of banks and institutions.  The news is disheartening all around for savers, with average rates for savings and money market accounts at 0.22% (22 basis points or 22 cents per $100 deposited), and “hardly worth walking to the bank” as Richard puts it.  When looking exclusively at traditional banks, the rates are worse, around 0.07%.  Online banks are comparatively many multiples better, though in absolute terms hardly impressive either—on average, 0.63% with the nine top online banks paying 1% or a few basis points more.  All told, there is a spread from 0.01% to 1.05%.  Richard concedes that these numbers aren’t sexy and no one’s going to get rich off a 1% savings rate (which is not even going to keep pace with inflation) but argues that, even in a grueling “three yards and a cloud of dust” low-interest-rate environment like the one we’re in, there’s no reason not take the online rates that are many times better than what you can get from your local brick and mortar bank.  He’s also convinced that the Fed is not going to come to the savers’ rescue and that they should assume rates will stay unusually low for the foreseeable future.

Savers Need To Adopt Investment Mindset

Steve points out that investors—as opposed to savers—are still relying on money market funds to park trillions of dollars, generally to hedge against the possibility of stock market volatility.  The fact that they are “fast, liquid, and on demand” offsets the low rate of return of money market funds.  The saver’s predicament, however, is the flip side of the coin, so to speak.  Steve believes savers have to switch to an investor mentality to survive.  They need higher returns on their savings, and the only way to get that is by taking on more risk, most readily found in equities markets.  Even the 2% average dividend payout from common stock is a major improvement over savings accounts.  With a good advisor and a willingness to take on a moderately higher amount of risk, savers can become investors in stocks that will provide financial relief from the Federal Reserve’s hyper accommodation via low borrowing rates of the money supply.

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.

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Steve Pomeranz: If you have any money squirreled away in a money market, you know that right now the rates are pathetically low.  We know interest rates are low, but we also know that the Federal Reserve has increased rates a couple of times, but are those increases showing up on your money market statement?  To answer these and other questions, I’ve invited Richard Barrington to join me.  He’s a Personal Finance Expert for Money-Rates.com.  Welcome, Richard.

Richard Barrington: Thanks, Steve.  Good to be here.

Steve Pomeranz: So, the Fed is on a slow march towards higher interest rates.  What’s taken so long, first of all?

Richard Barrington: Well, I think the bad news is that the slow march may be getting slower because, I guess, in honor of the recent Kentucky Derby, I’d say we had a triple crown of cautionary signals in April.  GDP, inflation, and job growth were all disappointingly low or even negative in the case of inflation, which I think is going to kind of give the Fed the willies when it comes to raising rates.

But even before that recent news, even when the news was a little more encouraging, this Fed has been very slow to raise rates.  We’ve seen, I think, in total just three rate hikes during an expansion that is approaching eight years in length, and that’s already about two years longer than the average post-World War II expansion.  So even with that, interest rates are still nowhere near back to normal levels. They’ve had an abundance of caution as it was and the three major economic releases in April just give them more reason to be cautious.

Steve Pomeranz: So, it’s bad news for savers and it’s good news for borrowers.  Did I hear you say the word inflation?  You know that’s a word that got my attention.  What were you saying about that?

Richard Barrington: Well, inflation has actually been bubbling up a little bit lately, but the most recent release—which was for the month of March and was released in mid-April—showed that inflation, the consumer price index, actually decline by 0.3% in March.  Now, to most consumers, the idea of falling prices sounds good, but deflation, falling price, is commonly linked with the notion that the economy is way too slow. Along with employment, inflation has been one of the key indicators that the Fed has been referring to when it’s talked about its interest rates policy.  Their target is to get inflation up around 2%.  Now, personally, I think that trying to revive inflation is kind of like trying to revive the monster in a horror movie.  You may regret it.

Steve Pomeranz: I agree.

Richard Barrington: And I think most consumers who are my age and lived through the ’70s and early ’80s would probably have the same instinct, but the Fed is very concerned with trying to hit these targets.  And that actually, probably more so than job growth, job growth has been pretty good in recent years.  It’s been the sluggishness of inflation that has caused the Fed to hold back.

Steve Pomeranz: When you were talking about you being in the business in the ’70s and ’80s, when I entered into investment consciousness, which was in the early ’80s, interest rates were at record highs, inflation was roaring ahead, and all you wanted to hear from the Fed was that inflation was coming down.  Now it’s really the opposite.  Inflation is so low that the idea that if it goes lower, that means that things are really not healthy.  There isn’t enough demand.  It says something about the economy, but, Richard, what does this have to do with me and my money market rate or my CD rate?  If I’m going out there and I’m trying to have a standard brokerage account or I go into a bank and open up a money market, what kind of average rate am I getting today?

Richard Barrington: Well, I think you used the word, “pathetically low,” and I think that hits it on the head.  The average rate on a savings account is just 22 basis points-

Steve Pomeranz: 0.22%, less than a quarter of 1%.

Richard Barrington: Yeah.  Exactly, exactly.  So, basically, that would be 22 cents a year on a $100 deposit.

Steve Pomeranz: Oh, God.

Richard Barrington: Hardly worth walking to the bank to collect.

Steve Pomeranz: Right.

Richard Barrington: In fact, not worth walking to the bank to collect.  And I think part of the problem is we talked about how slow the Fed has been to raise rates, but even when they have done so, it has had little or no impact on deposit rates.  So, I think one thing in terms of consumers and what to look for, if you’ve been hoping to see your savings earn more interest, just get it out of your mind that the Fed is going to suddenly ride to your rescue—because they’re not.

Steve Pomeranz: Yeah, I mean, you’ve been waiting and waiting and waiting and it still hasn’t happened.  And we all thought that we were going to start to see an uptick in those rates, but I think what I’m hearing from you now is that maybe the next Fed increase is not going to be as slated from their next meeting.  Is that your guess?

Richard Barrington: My guess is that, yeah, I think there’s reason to doubt that it’s going to happen that soon.  And again, I have no inside information or special insight on this.  All I know is that Janet Yellen’s Fed, somewhat like Bernanke’s before her, but even more so, its hallmark has been caution about raising rates.  And those three reports, as I say, that triple crown of bad reports in April, was a little spooky.  So, it’s possible they may get spooked off that.  But, in any event, even if they do raise rates, the indications have been, through the last few rate hikes, that this is not going to impact bank deposit rates.

Steve Pomeranz: Okay.  All right.  Well good.

Richard Barrington: So, consumers have to take a different tact.

Steve Pomeranz: My guest is Richard Barrington.  He’s a personal finance expert for Money-Rates.com, which is, by the way, a very good site.  It’s an easy site to use and it will show you all the rates.  What I want to talk about next with you, Richard, is you’re saying that the average rate is 0.22%, 22 cents for every $100 you invest, but there’s a big differential between what the traditional banks are paying, the so-called “brick and mortar banks,” and online banks.  So, take us there.  What are the online banks paying on average?

Richard Barrington: Sure.  The average online bank is paying 63 basis points, so that would be 63 cents in interest on every that-

Steve Pomeranz: Ah, it’s triple.

Richard Barrington: … Theoretical $100-

Steve Pomeranz: It’s basically triple.

Richard Barrington: Yeah, it’s basically triple the average.  And then if you compare that, now that average, that overall average included some online banks, so if you back those out and just say online versus traditional, the traditional banks are just giving you seven cents on that $100 deposit.

Steve Pomeranz: Oh, okay.

Richard Barrington: So roughly, it’s 7.2 cents.  An online bank on average is paying nearly nine times as much interest as a traditional brick and mortar bank.

Steve Pomeranz: So, you know, you guys on that site, I see that you’ve come up with a study that has looked at all of the online banks and posted the best names.  Tell us about what kind of rates the top tier of those online banks are paying.

Richard Barrington: That’s a great point, Steve, because when we start talking about these contrasts, the contrasts become even greater when you look at the absolute top.  We look at a sample, a cross-section, of the banking industry of 100 institutions.  These are online and traditional banks; these are large, medium, and small banks.  We were able to find nine banks paying 1% or better on savings accounts.  That would be a full dollar on your $100 deposit.  Now if you contrast that, that’s the high end of the scale; at the very low end of the scale, some banks are only paying 0.01%, which is a penny on your $100 deposit in interest.  So, there is actually a range out there where some folks are earning 100 times more interest on their savings account than other folks.

Steve Pomeranz: You know, I’ve got to tell you, though, even at 1%, it’s not like I want to release the doves and the balloons.

Richard Barrington: No, it’s-

Steve Pomeranz: I mean, really.  A buck for every $100?

Richard Barrington: Yeah, I hear you.  But when you think about those contrasts of whether it’s nine times more interest from an online account or 100 times more interest when you compare the top to the bottom, you know it’s not …  Shopping for a savings account isn’t sexy, and you aren’t going to get rich quickly doing it.  But the thing is though, in general, I don’t think this is a get rich quick type of economic environment that we’re in.  It’s a three-yards-and-a-cloud-of-dust environment.  You know, like the old football analogy.  The bottom line.  But if you can increase your annual returns by nine times or possibly even more, with no risk, why wouldn’t you do it?

Steve Pomeranz: Okay.  So, you’re talking about the point of view of the saver.  The investor looks at it a little bit differently because, if things get kind of squirrelly in the stock market, the only place you can really go to protect your money is a money market.  It’s fast, it’s liquid, it’s on demand.  So, in a sense, you don’t really care what the rate is, and I think that’s one of the reasons that there’s so many trillions of dollars sitting in these money markets even though rates are so low, as a parking place for investors.

But for savers, it’s a very difficult situation, and I’ve been saying for many years that savers have to become investors.  There’s no way you can survive anymore by being a saver.  You have to venture out on the risk scale a little bit, and I don’t think it’s that risky if you understand what you’re doing or you get an advisor who knows what they’re doing, for you to get a bit of a higher rate of return.  I mean, at least dividends.  The average common stock dividend pays over 2%.  Why wouldn’t you venture out with a great company or mutual fund or index fund or something, and capture those kinds of rates?

Unfortunately, we’re out of time.  My guest, Richard Barrington, Personal Finance Expert for Money-Rates.com.  I advise you to go to that site.  It’s a very good site, and you’ll see all the rates and you can put in different types of parameters to find out what rates are best for you.  Richard, thank you so much for joining us.

Richard Barrington: Thanks.  Good talking to you.

Steve Pomeranz: You can find Richard at Money-Rates.com, but you can also hear this segment and read all about it as well at our site, which is StevePomeranz.com.