You probably know that it is important to have money in some sort of an interest bearing account. Most people use savings accounts for this. However, the returns on savings accounts have been going down. One reader has expressed concern about this issue:
Why are savings account rates going down?
The answer is actually quite simple. Interest rates in general are influenced by the Fed Funds Rate. Cash rates are directly affected by the Fed Funds rate. FreeFromBroke offers an excellent explanation of how the Federal Funds Rate works:
The Federal Funds Rate is a target interest rate that is set by the Federal Reserve. It directly affects the interest rate that is charged to a bank when borrowing from another bank. Banks are required to keep a certain percentage of funds in reserve in Federal Reserve banks. When funds fall below the reserve percentage they must borrow overnight to bring their reserves up to the required percentage. If a bank has more than the required reserve then they can lend the money to other banks. …
When the rate is low money is “cheaper” and banks are more likely to lend money out to businesses so they can grow. When the rate is high banks are less likely to lend which leaves less money available for businesses to borrow.
This rate directly affects savings accounts rates and the rates offered on CDs. When the Fed Funds Rate drops, so, too, do the returns on cash investments. Since the Fed Funds Rate is so incredibly low right now (almost to 0%), so are returns on cash.
Beating low savings account rates
If you want the relative safety of cash, but aren’t happy with the returns on your current savings account, you might consider these ways to make the most of your cash:
- High yield savings accounts from online sources often provide higher yields. Just make sure that your bank is FDIC-insured.
- Money market accounts provide higher returns. These are checking or savings accounts that you can use to boost your returns. But there might be account minimum requirements.
- Rewards checking accounts are being offered by a number of local and regional banks. These offer high yields than those provided by savings accounts.
- Exotic CDs offer opportunities not seen by traditional CDs. You can get callable CDs, brokered CDs and bump-up CDs. Be careful, though: The FDIC does not always insure some of these CDs.
- Bonds can offer a cash-like stability, but with higher returns. However, you have to be aware that you can lose money on the more creative CDs. But some bonds and bond funds can provide you a better return with risk that is not much higher.
In the end, you have to evaluate you situation and decide what will work best for you. You might even consult a financial professional about your options for increasing your returns from cash and cash-like investments.