In its December meeting, the Federal Reserve surprised experts by calling for several interest rate cuts in 2024 as inflation has cooled off. But what does this mean for yields on certificates of deposit (CD), which are currently at multi-year highs? Here’s a rundown of what the Fed expects to do, what it could mean for CDs, and some important things to keep in mind as we head into 2024.
The Fed expects several rate cuts in 2024
The Federal Reserve decided to hold the benchmark federal funds rate steady at its December 2023 meeting, but the big story is in the economic projections the Fed released along with its decision.
In the latest projections, the policymakers are expecting three quarter-point (0.25%) cuts to the federal funds rate in 2024. This is a more aggressive pace of reduction than the Fed members had previously called for.
To be clear, these are projections, and nobody (not even the Fed members themselves) have a crystal ball that can tell them what’s going to happen. For example, in December 2021, the Fed expected the benchmark federal funds rate to be 0.9% at the end of 2022. It actually ended 2022 at a target range of 4.25%-4.5%. The projections are simply the best estimates the members can make with the information currently available.
What does the Federal Reserve mean for CD yields?
One important point to keep in mind is that while CD yields as a whole tend to move in the same direction as benchmark interest rates set by the Federal Reserve, they do not have a direct relationship. In other words, if the Fed cuts rates by 1 percentage point, there’s no guarantee that banks will move CD yields by the exact same amount. But it would be a smart bet that they’ll trend lower.
It’s also important to point out the different dynamics that govern short-term CDs versus those with longer maturities. I don’t want to turn this into an economics lesson and will spare you any mathematics involved, but the general idea is that shorter maturity CDs (say, 18-month and lower) have yields that are mainly dependent on the current state of benchmark interest rates.
On the other hand, longer maturity CDs have yields that are influenced by future expectations of interest rates.
To illustrate this, consider that as of this writing, there are 1-year CD yields available with yields as high as 5.5% from reputable financial institutions. On the other hand, the top 5-year CD yields available as of December 2023 are in the 4.3% ballpark. This is the opposite of the historical norm — typically, the longer you are willing to keep your money locked up, the higher the yield you can expect. The simple explanation is that while prevailing interest rates are relatively high right now, they are expected to drop significantly over the next few years.
The bottom line
The short explanation is that if the Federal Reserve ends up cutting the federal funds rate in 2024 as it expects, it is likely to push CD yields lower. However, there are a few key principles to keep in mind:
- There’s no guarantee the Fed will actually cut rates, or by how much. If economic data trends in the wrong direction, there could be no rate cuts at all.
- CDs and benchmark interest rates are not directly correlated.
- Nobody has a crystal ball that can predict economic conditions, political events, or other factors that can influence interest rates.
With all of that in mind, it could be a smart idea to put money into CDs now, if you have idle cash you’ve been waiting to deploy. And regardless of what happens to overall CD rates in 2024, it’s fairly certain that you’ll find the best yields from online banks like those on our best CD rates list.
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