Written by Liz Becker
With 2013 nearing its end, investors and consumers are already looking towards trends that would be of prime importance during 2014. The rise in interest rates is one factor which the entire market is looking out for.
This can be correlated with mortgage rates, which are now 1% point higher than what they were at the start of the year. The saving rates, however, have been at a standstill, so a rise in deposit rates would be good news for consumers.
Interest rates in 2014 are going to be influenced by three factors consisting of consumer demand, inflation and Federal Reserve policy.
1. Consumer Stake
The consumer health in the last few years has been marked by the increasing debt levels, unemployment, low gains on stocks and real estate. At the end of the current year, there has been increase in asset values of stocks/real estate and employment rates have improved.
There also has been a debt reduction of $798.5 billion, consisting of mortgage and consumer debt. So, overall, there is a better 'consumer' end, which translates to more demand for capital, leading to an increase in interest rate.
2. Inflation Stake
Before the recession struck, the inflation rate was recorded at an average of 4.13% per annum. Post-recession, it hovered around the 1.52% mark. When consumer demand would improve, the interest rate can rise.
3. Federal Stake
Since the recession, the Fed has been determined to take measures to keep interest rates in check. It has been able to achieve this on two levels:
- Short term interest rates have been kept in check by down regulation of the federal funds rate.
- Long term rates have been controlled through the quantitative easing program.
Reduction in purchases as per the Fed Reserve Policy would lead to a rise in interest rates.
Interest Rates and the Market
Now that we have discussed the major influencing factors, let's focus more on what the impact of the rising interest rates would be next year.
Deposit rates are one of the key areas, where change is expected. In order to authentically know the impact, short and long term interest rates have to be kept in mind. CD rates, savings, and money market accounts are affected more by short term rates rather than long term rates.
Secondly, loan demand in 2014 would also be an influencing factor towards deposit rates. This is because banks are interested in creating consumer interest towards deposit so they could fund these loans.
Also, online banking should receive a large term boost as compared to other financial institutions if the interest rates increase. This is because the highest CD rates in the market are being offered by such banks is higher than the national average. This can be seen in the CD rates from Discover Bank, which holds a rate of 0.85% per year, higher than national average. So, even a minor increase in interest rates would increase consumer demand for CDs in such banks.
With rising bond yields and an improved stock market, banks could see an increased consumer interest in deposits. If, however, loan demand remains meager, the effect wouldn't be of a large magnitude.
In terms of deposit, the best bet would be the spreads between long term CD rates and the savings account rates. The rates would widen as the interest rates rise. So, a prediction of sorts is that long term CDs would emerge as a compelling option.
Furthermore, banks now also offer long term CDs, which have less stringent early withdrawal penalties. This would let consumers keep options open as interest rates rise.
Based on the analysis that has been provided above, the rising interest and its impact on the market would also be influenced by banks. This is because of the primary influence being created by consumer demand. When there is an increased consumer demand, the banks have an option to either target deposits or move towards other profitable financial products.
This is because of the fact that with improvement in deposit rates, mortgages also rise. Banks are usually inclined to sell adjustable rate mortgages more because of their lucrative nature. So, it would be more a battle between short term mortgage rates versus deposit rates.
From the consumer point of view, the best way forward is to find a balance between mortgage rates and deposit options. Comparison of competing mortgage quotes becomes important while consumers hunt for the best savings account rates.