CD Yields Could Stay Higher for Longer — Here’s Why

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In September, the Federal Reserve lowered benchmark interest rates for the first time in more than four years. While this is good news for people who need to borrow money, it isn’t the best news for savers. Fed rate cuts will likely lead to lower interest rates on savings accounts, money market accounts, and certificates of deposit (CDs).

However, there’s some good news. Recent economic data indicates that Fed rate cuts could proceed more slowly than previously expected. This could mean that CD rates might not fall as rapidly as many people fear they will.

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Fed rate cut expectations have moderated

According to the CME FedWatch tool, which analyzes interest rate expectations that are priced into financial markets, there’s a 94% probability that the Fed will cut rates by 25 basis points (one-fourth of a percentage point) in November. A month ago, there was a roughly 30% chance that the rate cut would be twice that size.

A similar adjustment in expectations has occurred for the December Fed meeting. A month ago, the markets were pricing in a 64% probability that we’d see at least 75 basis points in rate cuts by the end of 2024. Now, the probability of this happening is indicated at 0%.

In a nutshell, the Fed is expected to continue cutting rates, but at a significantly slower pace than was previously expected.

The reason is that economic data has generally come in stronger than expected. For example, in the most recent CPI inflation data release, the annual inflation rate of 2.4% was slightly higher than expected. When September jobs data was released a couple of weeks ago, we not only learned that 254,000 jobs were added during the month vs. an expectation of 150,000, but that wage growth was better than expected.

The Federal Reserve’s job is to control inflation and maximize employment. With lower inflation and strong jobs data, there simply isn’t much of a need to aggressively cut interest rates.

CD rates will likely fall, but slower

To be perfectly clear, CD rates aren’t directly tied to the Fed’s interest rate decisions. However, the benchmark federal funds rate (the rate people refer to when saying “the Fed cut rates”) impacts how much it costs banks to borrow money, so it also affects how much banks are willing to pay for deposits.

In short, CD rates and the Fed’s benchmark interest rates typically move in the same direction.

So if Fed rate cuts occur at a slower pace than previously expected, it would likely cause CD yields to do the same. To be clear, it would still be wise to expect CD rates to generally trend lower over the next year or two, but it could certainly happen more slowly than many had been expecting.

What to expect in 2025 and beyond

Along with the rate cut in September, the members of the Federal Reserve released their economic projections, which among other things, include expectations for future interest rate activity.

The median expectation for the end of 2025 is a total of 150 basis points of rate cuts (1.5 percentage points) compared with current levels. If this were to happen as expected — and believe me, that’s a big if — I would expect short-term CD rates and high-yield savings account interest rates to move by about the same amount.

On the other hand, longer-term CDs, such as those with 5-year CD terms, tend to have rates that are primarily based on expectations for future interest rates. So unless something dramatically changes with the Fed’s outlook, I wouldn’t expect 5-year CD rates to fall too much over the next year or so.

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