5% CDs are dying breed. Here's how long cash savers have to lock in their rates.

Andrew Keshner

After the Fed's first interest-rate cut, 1-year CDs with over 5% APYs are fading away. 'I would get them while you can,' one expert says.

The Federal Reserve started its interest-rate-cut plans with a 50-basis-point slash that's been dubbed "aggressive."

But that could be tame compared to what's coming soon for cash savers who were captivated by easy 5% returns on 1-year certificates of deposit.

Brace for declines of 0.50%, maybe 0.75% and possibly 1% on the yields offered for 1-year CDs, banking-industry experts told MarketWatch. That is, if the rate drops didn't already start before the Fed's move.

One-year CDs offering at least 5% annual percentage yields "are a dying breed right now. I would get them while you can," said Tod Gordon, senior advisor at Klaros Group, an advisory firm for banks and fintech companies.

See also: The Fed rate cut scared me. Where should I invest my $127,000 in savings now?

"There will be a delay of several days to a week or two," Gordon predicted, before savers see rate reductions "somewhere between 50 and 100 basis points." And that's just on the first rate cut that's materialized.

A single basis point is a one-hundredth of a percentage point, or 0.01%.

John Blizzard, founder of CD Valet, an online marketplace for CD shoppers, said it's "hard to apply generalities" to the question of how many percentage points CD rates will fall by. "Plus, a lot of rates already moved," he noted.

Comparing the Thursday after the Sept. 18 Fed cut to the same point a month earlier, rates decreased for almost 4,200 CDs on CD Valet and increased for just over 500 CDs, the website's data showed. The site tracks rates for approximately 31,000 CDs.

The rates on 648 CDs declined from Sept. 18 to Sept. 19, after the Fed cut its federal-funds rate, according to CD Valet data.

Savers should be ready for rates that may be anywhere from 20 to 75 basis points lower if they haven't decreased already, Blizzard said Sept. 19. "Some happened over the last month, some in the last 24 hours, [and] a bunch more will happen over the next couple weeks to a month."

In September, the number of CDs on the site with at least 5% yields contracted to just under 1,500, down from 2,057 in August.

Blizzard is also the president and chief executive of Seattle Bank. The bank's 1-year CD now has an 4.55% APY. Where next? "We're always looking at our rates. ... Watch the site, see what happens," he said.

Banks hope it's the start, not the end

To be sure, cash savers have been looking at rates and have shoveled almost $2 trillion into CDs since the Fed started hiking its benchmark interest rate in early 2022 to fight rising inflation.

Banks held $2.98 trillion in CDs during the second quarter, up from $1.32 trillion at the same time in 2022, according to the FDIC. Credit unions had $528 billion in CDs in the second quarter, up from $240 billion in the second quarter of 2022, according to the National Credit Union Administration.

What should cash savers do now that CD APYs are dropping?

Now, people have to consider their next move as their CDs mature. Renew into fresh CDs, albeit at lower APYs? Or take another tack with their excess cash?

It pays to know how banks decide the rates they'll pay on deposits.

The 1-year Treasury bill BX:TMUBMUSD01Y is one benchmark that banks follow when determining their 1-year CD rates, Gordon said. The 1-year T-bill's yield is more than 100 basis points lower since mid-June, he noted. By Sept. 20, it was down to 3.94%, from 5.11% at the same point in June.

Yet banks need to cut their rates with care, because they need to keep their deposits in order to have a base to make profitable loans.

As plump CDs ripen, Gordon said banks are hoping it's just the start of their relationship with a customer. Internal data from banks suggest there's a good chance people renew their CDs and build out their banking with the institution.

For banks, it's "a little bit of a tightrope to maintain relationships while being able to monetize lower interest rates the market is observing," he said.

For savers, it's worth looking around, said Blizzard. Even as a wide swath of interest rates nudge lower, there's going to some banks and credit unions still offering more enticing yields and generous terms in their bid for people's deposits.

So is the best play for rate-seeking CD savers just to shop around? It's more nuanced, Blizzard explained, and hinges on their personal beliefs on how deeply interest rates will decline going forward.

If someone strongly thinks rates are going down by a lot, locking in 3- and 5-year CDs may work best for them, Blizzard said. If these savers aren't buying the idea of many rate cuts, they may want to go with short-term CDs of under one year, he noted.

And if they aren't sure or don't have strong feelings, according to Blizzard, 1- and 2-year CDs could be a middle-of-the-road approach.

A current challenge for savers is that the rates on 3- and 5-year CDs can be lower than rates on shorter-term CDs. That reflects banks' views that rates will be lower when those longer-term CDs come due. It's still tricky to navigate, and time will tell where those long-term rates go. "We are in a very odd situation," Blizzard said.

What's next for yields on money-market funds?

As savers and cash investors consider their time and options, they may also want to consider what they can get elsewhere. Besides, CDs may not work for everyone because of the lockup periods before maturity.

The Fed's rate hikes also burnished the appeal of money-market funds, which are far more liquid. But the returns on these conservative, rate-sensitive mutual funds are also poised for a fall under 5%, according to one expert.

The seven-day yield on the biggest money-market mutual funds was 5.06% as of Sept. 20 according to Crane Data. A month on from the Fed's cut, these funds could be offering around 4.6% yields, said Crane Data president Peter Crane.

Where do interest rates go next?

The Fed's rate cut announcement also included projections: Officials penciled in a likelihood of two more rate cuts, each by 25 basis points, before the end of the year. But that's just a forecast.

Fed Chair Jerome Powell said at a press conference that the central bank may be "recalibrating" its policy expectations, but it's "not on any preset course."

Whatever cuts come next, the big picture still calls for interest rates that will be generally higher than they were recently, said economist Lauren Saidel-Baker of ITR Economics, part of the accounting and consulting firm Crowe LLP.

The Fed started its hiking cycle when its policy rate was near 0%, but superlow rates had stretched for many years before that, Saidel-Baker noted. Compared to the higher rates seen over past decades, "we got used to something that is not normal" she said.

Wherever the Fed goes, "this is more a reset at a higher baseline," and "not a full retracement to where we have been," she added.

That's consolation for people fretting over the end of 5% yields, according to Saidel-Baker. "There is a floor," she said. "The bottom is not falling from deposit rates."

What personal-finance issues would you like to see covered in MarketWatch? We would like to hear from readers about their financial decisions and money-related questions. You can fill out this form or write to us at readerstories@marketwatch.com. A reporter may be in touch to learn more. MarketWatch will not attribute your answers to you by name without your permission.

-Andrew Keshner

This content was created by MarketWatch, which is operated by Dow Jones & Co. MarketWatch is published independently from Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

09-23-24 1352ET

Copyright (c) 2024 Dow Jones & Company, Inc.