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FOMC Meets Next Week to Decide Policy, are Interest Rates Headed Higher?
 

FOMC Meets Next Week to Decide Policy, are Interest Rates Headed Higher?

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The Federal Open Market Committee (FOMC) has their two day meeting next week to decide the future direction of monetary policy. Analysts believe the FOMC will keep the federal funds rate at zero percent to ¼ percent, which is the range the rate has been in since December 2008. What most analysts believe the FOMC will change is tapering their purchases of long term U.S. Treasuries and mortgage-backed securities (MBS).

How will these two policies affect both short term and long term bank CD rates? Keeping the fed funds rate near zero percent will keep short term CD rates at current levels. If the FOMC does making an announcement about buying less than the current levels, $85 billion a month, in Treasuries and MBS purchases long term CD rates will move higher.

Fixed Mortgage Rates Higher Will Also Move Higher


FOMC Meets Next Week to Decide Policy are Interest Rates Headed HigherThe possibly of this the FOMC decreasing their purchases has already sent long term bond rates much higher over the past four months. 10 year bond yields hit a low point of 1.62 percent in early May are just under 3.00 percent this morning. This has sent fixed mortgage rates higher since lenders peg mortgage rates to long term bond rates.

Fixed mortgage rates on both conforming and jumbo loans have increased over 125 basis points, or 1.25 percent since early May. Average 30 year conforming mortgage rates today are at 4.67 percent and average 30 year jumbo mortgage rates are at 4.86 percent.

Right after meeting on Sept 17 and 18, the FOMC will release a statement. If there is any mention of slowing down purchases, 10 year bond yields will move above 3.00 percent and probably as high as 3.25 percent by the end of the week. This will send average 30 year conforming mortgage rates near 5.00 percent and 30 year jumbo mortgage rates to 5.25 percent.

Long Term CD Rates Will Increase


The best CD rates on 5 year certificates of deposit will also move higher, probably as high as 2.25 percent. The highest 5 year CD rates right now on our rate list are at 2.03 percent with an APY of 2.05 percent. Back in early May, the highest 5 year CD rates were around 1.50 percent.

While the best 5 year rates have moved higher, average 5 year CD rates haven't gone anywhere. The FDIC's Weekly Rates and Rate Cap survey in early May had 5 year CD rates averaging 0.75 percent. The most recent FDIC report released on September 3 had the average 5 year rate at 0.74 percent.

Short Term CD Rates Will Increase in 2014


While some banks have already increased long term CD interest rates, the majority of banks won't increase short term CD rates until the FOMC increases the fed funds rate. The FOMC has stated they plan on keeping the rate near zero percent until the nation's unemployment rate falls below 6.5 percent. The unemployment rate for the month of August was 7.3 percent, down 0.1 percent from the prior month.

The decline in the unemployment rate has been about 0.1 percent each month for the past year. If the current trend continues it will take another 8 months to reach a level of 6.5 percent. 8 months from August's report would take us to April's report, which will be released the first Friday in May of 2014.

Even if the rate hits 6.5 percent in the April 2014 report, the FOMC doesn't meet until mid-June to decide interest rate policy. If this scenario plays out, the next fed fund rate increase might come after the two day meeting set for June 17 and 18. Soon after banks will increase deposit rates.

Of course, the Fed could hold an unscheduled meeting and increase the rate before the June meeting but that is unlikely. Incidentally, the Fed Chairman, Ben Bernanke, is scheduled to hold a press conference right after the scheduled June meeting. This would be a good time to explain to the public why they are increasing the fed funds rate.

Interest Rates Will Rise Sharply in 2014


The fed funds rate has been so low for so long in order to accommodate growth that the Fed would have to increase the rate dramatically just get the rate to a neutral point. A neutral point is where the rate isn't stimulating demand or constricting growth for goods and services. That point, with the current inflation rate at 1.7 percent, would be a fed funds rate near 2.00 percent.

The Fed won't increase the rate from zero percent to 2 percent in just one increase. They will do it over several months next year. The FOMC has four more scheduled meetings after the June 2014 meeting. The Fed will probably make a series of 0.50 percent increases in the Fed funds rate until it reaches 2.00 percent.

Banks will start increasing interest rates on deposit products such as certificates of deposit, savings accounts, and money market accounts. The increases will also come in steps over the second half of 2014.

Stay Invested in Short Term CDs, Savings or Money Market Accounts


Make no mistake, interest rates are moving higher. Long term CD rates will move higher in 2013 but I wouldn't lock in to a long term certificate of deposit this year because rates are so low. The smart money is staying invested in shorter term certificates of deposit, savings accounts, and money market accounts to be able to ride the rate increases higher.
Author: Brian McKay
September 10th, 2013