Long Term Bond Yields on a Tear as CD Rates Languish

The past month long bond yields have been on a tear. Bond holders have been selling bonds on fears the Federal Reserve will stop purchasing long term bond to drive yields lower. Bond prices move inversely to interest rates, when bond prices move lower, bond interest rates move higher.

Since the beginning of May 10 bond yields increased 78 basis points, from 1.66 percent to 2.44 percent, that is an increase of almost 50 percent in less than two months. During that time, the best long term CD rates haven't made any moves higher and average long term rates are slightly lower.

The highest CD rates on 5 year certificates of deposit this week are at 1.76 percent, the same point rates were in early May. CD rates have languished the past month but rates are still much higher than bond yields for equitant terms. 5 year bond yields closed yesterday at 1.31 percent, 45 basis points lower than 5 year CD rates.

Short term bond yields and bank CD rates haven't moved higher at all the past two months. 1 year bond yields closed on May 1st at 0.15 percent, yesterday 1 year bond yields closed at 0.14 percent.

Best 1 Year CD Rates

The best CD rates on 1 year certificate of deposit rates were just above 1.00 percent in early May and are still just above 1.00 percent at 1.04 percent. During the same timeframe, average 1 year CD rates haven't changed at all at 0.21 percent.

Long term bond yields have been on a tear because investors are worried the Federal Open Market Committee will stop quantitative easing.

Third Round of Quantitative Easing

The current round of quantitative easing, is the third round of easing the Fed has embarked on, involves the FOMC buying $85 billion a month in mortgage backed securities and U.S. Treasuries. This round of easing (QE3) is to drive long term bond yields and mortgage rates lower.

Besides the purchases, the FOMC has also been reinvesting principal payments from its holdings back into more debt. Investing principal payments of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction.

Long Term Interest Rates

These policies have forced long term interest rates to record lows over the past year but haven't been working the past two months. The recent increase in bond yields and mortgage rates will probably only be temporary since the FOMC hasn't actually changed their policies yet. The markets have gotten ahead of themselves forcing rates and yields higher.

Future Direction of CD Rates

As far as CD rates moving higher that all depends on when the FOMC increases their benchmark interest rate, the federal funds rate. The current targeted rate is between zero percent and one quarter percent. In the most recent FOMC statement the Committee said they plan to keep the fed funds rate where it is well past the point they stop QE3.

One of two things have to happen for the Committee to increase the fed funds rate, the unemployment rate has to fall below 6.5 percent or the outlook for inflation has to be half a percent higher than the Committee's targeted inflation rate of 2.00 percent. Until that time deposit rates will also remain low. You can read this excerpt on the fed funds from the Committee's June Statement below, or read the entire statement here: FOMC June Statement.
In particular, the Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent, inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee's 2 percent longer-run goal, and longer-term inflation expectations continue to be well anchored.

You can find the best short term and long term CD rates by searching our rate tables here: CDRates.RatesORama.com
Author: Brian McKay
June 21st, 2013