NEW YORK (MainStreet) —Inflation is once again rearing its ugly head, and the one place it’s most unwelcome is in bank deposits.
Inflation in the U.S. has been on a sharp upward path since the beginning of 2011. According to the U.S. Inflation Calculator, the inflation rate rose from 1.6% in January to 3.6% in May 2011.
That’s not helping bank investors for three big reasons:
You’ll lose money on CDs. Certificates of deposit have historically been a popular choice for risk-averse bank deposit investors. But what kind of CDs return more than the current rate of inflation at 3.6%? Not many if you look at the latest numbers from the BankingMyWay CD Rate tracker:
July 5, 2011
60-Month CD - 1.571%
48-Month CD - 1.234%
24-Month CD - 0.688%
12-Month CD - 0.432%
6-Month CD - 0.275%
3-Month CD - 0.173%
Those numbers are much lower than they were the same week in 2010 (when the inflation rate stood at 1.2%):
July 6, 2010
60-Month CD - 2.058%
48-Month CD - 1.738%
24-Month CD - 1.171%
12-Month CD - 0.725%
6-Month CD - 0.473%
3-Month CD - 0.303%
At least in 2010, the low inflation rate allowed bank CD investors at the highest maturity term to at least turn a profit. But that’s about it. In 2011, no CD investor can actually turn a real profit if rate of return on CDs are below 3.6%, as they all are right now.
Your best play isn't the obvious one. If you go farther on the CD yield curve, you might be locking yourself into a fixed rate for four or five years as inflation rises. That pretty much guarantees a loss if inflation keeps climbing at its current pace. At least with a short-term CD, say six months, you can opt out and get into a higher-return investment, like stocks, once the six months are up.
You’ll save less for retirement. In both the near-term and the long-term, you’ll have to save more to account for inflation. Banks and investment companies are aggressive about touting investment returns, but they don’t have much to say about how inflation makes those numbers smaller. You may indeed make 7% or 8% returns on a given mutual fund, but 3.6% average annual inflation cuts those returns roughly in half. One bank that does a good job of educating its customers about inflation is TD bank. Check out its tutorial on inflation and retirement savings.
Money markets will decrease in value. There is some good news on the inflation front – the rate of its upward acceleration is slowing. The U.S. consumer price index did rise by 0.2% in May, but that was just about half of April’s rise. That’s cold comfort for money market investors. Average interest rates for money market accounts, as measured by the BankingMyWay Weekly Money Market Rate tracker are a paltry 0.218%. That yield is so low there’s really no sense in investing in money markets at all beyond the purest capital preservation play.
But that’s what inflation does to bank deposit investors. At a time when the Federal Reserve is still keeping a tight lid on interest rates, inflation is destroying bank deposit rates.
Only when the Fed relents on rates – or if inflation creeps back down - will bank investors have a fighting chance at making money on their money.