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Background: How do banks set CD interest rates?
CD interest rates are primarily a function of macro-economic factors, such as the current interest rate environment, mixed with a basic economic tenet: longer terms typically earn you higher rates (due to liquidity risk).
While these two factors are largely out of anyone’s control and can’t be manipulated, there is a third influencing factor that that can offer more leeway: a bank’s pricing strategy. The individual strategies of banks may cause them to offer promotional rates for certain CDs. As Market Rates Insight describes it, bonus rates are used as the main way to “drive balances towards the most desired deposit products” and are an “indication of the capital strategy” of each bank.
Finding bonus CD rates can pay off
Rates are currently very low for all terms, so even a relatively small bonus rate can boost returns. NerdWallet analyzed CD pricing data provided by Market Rates Insight over the past year (12-months ending September 2012) and found:
- Bonus rates can double your return: Overall, bonus rates across all categories offered up to an additional 0.68% on average rates – for example, the average APY for 3-year CD was 0.7%; however the average bonus APY for that same term is 1.38%, nearly double the average
- Longer term CDs don’t always yield higher returns than shorter terms once you account for bonus rates:
- 1-year CDs actually had lower rates than shorter 3-9 month bonus CDs: At 0.49%, the bonus average APY for 3-9 month CDs beat both the average and the bonus APY rates for 1-year CDs (0.32 and 0.33%, respectively)
- Special short-term CD rates (average bonus APY of 0.49 for <1 year term) are even keeping pace with typical 2-year CD averages (APY of 0.51%)
|Term||<1 year||1 year||2 years||3 years||4-5 years|
|Avg. Bonus APY||0.49%||0.33%||0.92%||1.38%||1.50%|
|% of Avg. APY||164%||3%||82%||97%||48%|
While long-term CDs still offer higher yields, consumers could realistically get a better rate for half the term-length with some initial research to find the best CD rates. This is a critical advantage for savers concerned about interest rate risk. Choosing a short-term CD allows a depositor to be more agile in pursuing rate increases that occur after opening a new account. Why invest in a CD with a lower rate and more restrictive term? Look for a short-term bonus rate instead.
For the data nerds out there like us, we charted the additional interest you would have earned with a bonus rate as a percentage of the average APY for that same term.
- For 1 year CDs, there are basically no meaningful premiums offered
- For short-term CDs under 1 year, however, premiums can be 2-3x’s the regular average APY
- 3-year CD premiums are around double the regular average APY and appear to be creeping upward over the past year
Where can consumers find bonus CD rates?
To help consumers find bonus CD rates, we’ve compiled a list that features some of best bonus CD rates out there and will be updating them regularly:
Additionally, our Interest Rate Monitor has proven that credit unions tend to offer higher rates. Approximately 80% of accounts with a yield higher than current inflation were offered at credit unions rather than banks, so a good option is to check with a local credit union.
Banking image via shutterstock