Interest Rates On Cds At A Low

If you've got a certificate of deposit maturing this month and you're shocked at how low the new interest rate is, welcome to the club - which includes millions of other people.

About half of all CDs in this country mature - and most roll over into new CDs - in either April or October. April is hot because it's the deadline for tax-deductible contributions to individual retirement accounts; October became a busy CD month because many original IRA CDs were for 18 months - and because CDs became a "safe haven" for many investors after the stock market crash of October 1987.

All interest rates, including those for money-market funds and CDs, are at their lowest levels in years, without much prospect of increases any time soon.

The average yield on one-year CDs in this state last week, compiled by Market Trends Research Co. in Bellevue, was 6.237 percent, down from 7.928 percent one year ago.

That is the lowest rate since Market Trends began computing the Washington average in June 1986. The previous low was 6.259 percent, in February 1987.

"People are getting killed" by the low interest rates, said Richard Knight, a financial planner and president of Quality Financial Plans in Bellevue. "We have been spoiled for the last few years by high interest rates. They peaked in 1982 and have been coming down ever since."

The good news is that low interest rates work both ways. Rates on mortgages and many other types of loans are lower than they have been in years. And, wonder of wonder, even some credit-card rates have come down slightly.

For savers, who are in fact lenders, the bad news may not be as bad as it seems.

"I don't think people should be too overly concerned about low interest rates when inflation is so low. What really matters is your real rate of return after inflation," said Kaycee Krysty, director of personal finance at the accounting firm of Moss Adams in Seattle.

The Consumer Price Index, the most commonly used measure of inflation, rose 3.8 percent from August 1990 to August 1991.

That means that, after inflation, "people are still getting decent earnings on their CDs," Krysty said. "I am worried that a lot of people will go out and take more risks to get higher returns, when that is not justified. Virtually anything that pays higher returns is going to involve more risk."

For example, you could invest in a bond fund that pays 8 percent or 9 percent. But the value of your principal will fluctuate as interest rates change. If rates go up, bond prices go down, and vice versa.

"Nobody has come up with an alternative investment that does not involve interest-rate risk to your principal," Krysty said. "Every saver must know what their tolerance is for the risk of losing some of their principal."

To avoid this risk altogether, you're limited to bank accounts, T-bills, CDs and money-market funds, none of which pays very high interest.

Eileen Walker, a financial planner at Fortune Financial Inc. in Seattle, says that one way to take advantage of today's low interest rates is by paying off debts.

"Instead of investing your money, start paying down your mortgage," Walker said. "Most people are paying more on their mortgages than they will get in savings."

If you are sure you won't need the money for awhile, you can take your maturing CD and use it to make an extra principal payment on your mortgage. Instead of earning 6 percent or so, your money will save you 10 percent or so. Though this won't reduce your monthly mortgage payments, it is equivalent to a "permanent" investment at the interest rate of your mortgage for a term that lasts until the mortgage is paid off.

If you need access to your "savings" in the meantime, you'd have to borrow against your home through refinancing the mortgage or taking out a home-equity line of credit.

For savers intent on earning higher yields than those offered by CDs, here are some alternatives:

-- Short-term bond funds pay a few percentage points more than CDs and money-market funds. Interest-rate risk exists, but it is minimized by the relatively short maturities of bonds in the funds' portfolios. Look for maximum maturities of three years.

-- Many utility stocks pay dividends of 6 percent to 8 percent, with the possibility of future increases in dividends. Utility stocks have been relatively depressed for some time, so yields are good. But there is no guarantee that dividends will continue at their current levels - or that the stocks will keep their present market value.

-- Single-premium deferred annuities may pay 9 percent or more. But there's a catch: The rate is typically guaranteed (by an insurance company) for only one year, yet you will pay penalties for withdrawing your money anytime within the first half dozen or more years, depending on the individual contract.

-- Treasury bonds maturing in 10 to 30 years offer principal and interest (about 8 percent now) backed by the government. If you can afford to wait to the maturity date, you will get all your principal back. In the meantime, their market value will fluctuate with interest rates.

-- Unit investment trusts, fixed pools of bond with set maturities, can provide 8 percent or more yields. Your best buys will be on the secondary market, not new issues. These also fluctuate in price if you need to sell before maturity.

-- Ginnie Maes also are guaranteed by the government and pay about 8 percent. But these securities involve interest-rate risk. When they mature depends on when borrowers pay off the underlying mortgages; if interest rates drop, more of those mortgages will be paid off.

-- For anybody in the 28 percent income-tax bracket or higher, municipal bonds may be attractive. Muni yields, free of federal income taxes, are closer to taxable yields than they have been for years. If you're in the 28 percent tax bracket, you'd have to earn a taxable 8.33 percent to equal a municipal bond yield of 6 percent, said Krysty.

-- A relatively new competitor among income investments is the overseas government-bond fund, typically paying 9 percent. The drawback is that, in addition to interest-rate risk, these funds involve foreign-exchange rate risks, Knight said.