By David Enna, Tipswatch.com
On my way to look something else up, I noticed something interesting: The yield of the nominal 5-year Treasury note has been rising nicely over recent weeks, but yields of 5-year insured bank CDs remain stuck at very low levels. That shouldn’t be happening, but here we are.
As this chart shows, this isn’t an unusual situation. Banks have been pushing customers away from 5-year CDs for several years, preferring to offer attractive 11-month or 1-year CD rates, which can bring new customers into the door. But during the early months of the pandemic, banks held 5-year CD rates relatively stable at already very low rates. Now that the 5-year Treasury yield is rising, banks are standing pat, with the national average 5-year CD rate at 0.30%. The 5-year Treasury yield closed Friday at 0.97%, up a strong 61 basis points this year.
Even when you look at yields for best-in-nation 5-year CDs, they almost always lag well below the 5-year Treasury, which is equal in safety, has no purchase limit and is not subject to state income taxes.
OK, I admit that a 5-year Treasury paying a nominal yield of 0.97% isn’t attractive. But I wonder why some banks don’t adopt a strategy of locking in customers at a 1.2% yield for 5 years, when it seems rather likely that yields could rise substantially in coming years. But the more aggressive, online-oriented banks are focusing on 1-year maturities.
The 1-year Treasury bill is currently yielding 0.07%, while many best-in-nation banks are offering yields of 0.50% and above. For the one-year term, bank CDs are much more attractive, versus Treasurys.
And, for the record, banks like BB&T and Wells Fargo that allow customers to sign up for CDs paying 0.01% interest should hang their heads in shame.
The danger of CD rollovers
My theory is that many banking customers allow their CDs to roll over at maturity, without even checking the current yield. For example, I have an 11-month CD at Ally Bank that will mature in May. It is currently yielding 1.2%. If I allow it to roll over next month, the yield will probably drop to 0.5%, a drop of 70 basis points. Well, at least that’s better than the 0.01% I’m earning in my brokerage cash account.
That Ally rollover isn’t a bad deal, and this is a no-penalty CD, so the money is always available to withdraw if conditions change.
But that’s not the case if you have a 5-year CD maturing soon. Back in 2016 to 2019, it was possible to snag 5-year bank CDs paying well over 2.0% (we used to laugh at that rate, remember?). When those CDs mature, they will be automatically rolled over to new 5-year CDs paying at the best about 0.80%, and maybe much lower.
Your bank should notify you of an upcoming CD rollover. Pay attention, and go shopping. If you are looking for safety, my recommendation is to hunt for 1) online savings accounts paying 0.5% or more, or 2) 1-year CDs yielding 0.5% or more, in a bank you like working with. Ally Bank’s “no penalty” feature is attractive, but it is only offered on the 11-month term. It yields 0.50%, the same as the bank’s online savings account. However, yields on these online bank savings accounts have been drifting lower over the last year.
The 5-year term just isn’t attractive at this point.
However, a new 5-year TIPS will be offered at auction on April 22. I will be taking a deeper look at that investment in a couple weeks.
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David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. The investments he discusses can purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.
My main CD banks are Ally and Discover Bank,since I am 86 and my husband 13 younger I have set all the CD’s at Ally to 11 months no penalty CD’s, just in case something happens to me and I miss the date. Discover Bank now goes to the savings account. There was also a time that the bank CD’s on Schwab and Fidelity had higher rates, so I bought there. They won’t get renewed just paid out in cash, so I don’t have to worry I miss the date. hanna
I have noticed when interest rates start to fall, that banks drop their CD and savings rates very quickly. When interest rates start to rise, banks are very slow to increase their rates. Banks like to maximize their spread (interest they make on loans minus interest they pay to savers) to the detriment of all those concerned except the bankers.
Absolutely true. There is usually one term of CD (currently the 11 month or 1 year) that aggressive banks market with a good rate, currently around 0.60%. At other times, it’s been the 5-year, when you could nab 3.0% in the not-distant past. Banks really should try offering 1.3% or 1.5% 5-year CDs, instead of the current 0.90%. Lock people up at these low rates.
Great to read this column. thanks for taking the time to lay it all out so plainly.
I have some EE bonds issued October 2002. These reached “first maturity” after 17 years in 2019, and they now yield 90% of the 5-year Treasury yield.
After April 1, my yield on these dropped from over 1% to 0.28% (for the next 6 months), and I was going to redeem them. But instead I’m going to endure 6 months of 0.28% yield and hold them as an alternative to rolling over 5-year CDs. These are better than CDs for a number of reasons, among which the absence of an early withdrawal penalty. With a money market rate pegged to 5-year Treasurys (albeit with a 10% haircut), this looks like a decent hold here, given the sharp upward slope of the short-term yield curve.
I can see the logic in holding them a bit longer. You could also consider redeeming a portion, year by year, until the maturity year of 2032. That way you could minimize any tax hit. You can get 0.50% at Ally in an 11-month no-penalty CD, or the same in an Ally savings account paying 0.50% (for now). …. But since you are getting 90% of a 5-year Treasury, your yield on the EE Bonds is likely to be better at the next rate adjustment. Holding seems right.
Thanks as ever, David.
Often, CD accounts will be set up by the bank to roll over automatically, so the onus is on the customer to chose what to do with the proceeds on maturity. I had a 12 month CD paying 2.4% which matured in August 2020 and the bank had set up the account to roll over into a new 12 month (with penalty) term – paying just 0.5%. Luckily, I had altered my maturity directions well ahead of time, cashed out the proceeds, and made my annual contribution into I Bonds.
My message to other savers is to check your maturity options well ahead of time. Your CD will more than likely have been set by the bank to roll over by default.
Thanks for another “heads up”, always appreciated!!