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It finally happened. After months of hinting at interest rate cuts, the Federal Reserve slashed its benchmark interest rate by half a percentage point. This move wasn't unexpected per se, but it was considered somewhat bold on the part of the Fed, since the central bank could have opted for a quarter point rate cut but went big instead.
As a result of the Fed's first rate cut in years, if you log into your bank to look at your savings account this week, there's a good chance you'll see that the interest rate it's paying you has dropped a bit. And if that hasn't happened yet, it probably will soon.
You'll also probably notice that CD rates are lower now than they were a few weeks ago. If you act quickly, though, you can still lock in a CD at a pretty competitive rate. And that's something a lot of people may opt to do before the end of the year.
But I predict that by this time next year, CDs won't be such a popular savings tool, and that more people will opt to keep their money in a regular savings account. Here's why.
When there's not enough upside to justify a CD
CDs offer benefits and drawbacks. One big plus is getting to lock in an interest rate that may be a notch higher than what a savings account might pay you. Also, with a CD, that interest rate is guaranteed for the duration of your CD's term. If you sign a 12-month CD at 4.5% and deposit $10,000, you're guaranteed to earn $450 in interest.
With a savings account, you could start out earning 4.25% on a $10,000 deposit. If that rate stays the same, then after a year, you're looking at $425, which isn't so different from a CD. But since that 4.25% isn't guaranteed, you could end up with quite a bit less interest on your money.
But CDs have a big disadvantage -- they require a commitment on your part. If you withdraw even a part of your balance before its maturity date, you'll generally face a penalty that could cost you several months' worth of interest. (The exact amount will depend on your CD's length and the specific bank you're using.)
Since CD rates have been so competitive this year, it's been easy for savers to commit to keeping their money in the bank for a preset period. But as CD rates fall, it's going to be harder to justify that commitment.
And since the Fed is likely to lower interest rates multiple times over the next year, I predict that by the fall of 2025, CDs are not going to be as popular. Instead, I think more people will choose to keep their money in a savings account for flexibility.
With a savings account, you can withdraw your money at any time, whether to cover a purchase you want or an emergency expense. Also, as interest rates continue to fall, you may decide that it doesn't pay to have extra cash in the bank, beyond three months' worth of bills for emergency fund purposes.
With a savings account, you can make the decision to take your money out and invest it for what could be a much higher return. With a CD, you're stuck in limbo until it matures -- unless, of course, you're willing to pay a penalty.
Should you renew a maturing CD now, or move your money into a savings account?
CD rates may not be so attractive in a year from now, but at this moment, they're still pretty competitive.
If you look around, you'll probably be able to find something in the ballpark of 4.5%. That's a great rate, historically speaking.
But whether you should renew a CD or move the money into savings depends on your situation. If you're confident you're set with your emergency fund and don't have any larger expenses planned in the next year, then you may decide to renew a CD for one more year. If you're not sure, move the money into a savings account to leave your options open.
Also, consider a third option -- investing that money in a brokerage account if you're all set with emergency savings and are willing to let that sum grow for a period of about 10 years or longer.
Investing isn't something you should do on a short-term basis because you need time to ride out market declines. But over the past 50 years, the stock market's average annual return has been 10%, accounting for strong and weak years.
If you leave your money in a stock portfolio for about 10 years or longer, there's a good chance you'll score a similar return. And not only is 10% much higher than today's CD and savings account rates, but it's likely to be significantly higher than the interest rate you'll be looking at in a year from now.
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