The Federal Reserve recently cut interest rates for the first time in more than four years, and many savers are worried that yields on CDs, high-yield savings accounts, and money market accounts are set to plunge. While it’s true that the interest rates offered by banks tend to move in the same direction as the Fed’s moves, the relationship isn’t a perfect one, and it’s important to realize that we’re unlikely to see the rock-bottom interest rates of 2021 and earlier again anytime soon.
With that in mind, here’s a rundown of the latest interest rate expectations from the Fed, how Fed rate cuts impact CD yields, and why CD yields might not plunge as much as you think in 2025.
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Rate cut expectations
I’ll get right to it. The benchmark federal funds rate is currently set at a target range of 4.75%-5.00%. The latest expectation from the Federal Reserve is for a federal funds target of 4.25%-4.50% at the beginning of 2025 and for a range of 3.25%-3.50% by the end of the year.
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For context, it’s important to point out that a target federal funds rate of 3.25%-3.50% is still relatively high by recent historic standards. After all, the peak of the federal funds rate during the last (2016-2019) rate hike cycle was less than 3%, and the benchmark interest rate was set at virtually zero from 2020 until early 2022.
So, even if the Fed’s rate cuts proceed as expected, the benchmark rate will still be higher than it was at any point since the mid-2000s prior to the current cycle.
What will it mean for CD yields?
First, the interest rates paid by banks on deposits don’t have a direct relationship with the Fed’s benchmark interest rates. However, since the federal funds rate impacts how much it costs banks to borrow money, the rates do tend to move in the same direction.
With high-yield savings accounts and money market accounts, the relationship is usually more direct. Unlike CDs, there isn’t a time component with these, meaning that the interest rates can change at any time. In short, their rates are based on the current interest rate environment.
For CDs, it’s a little more complicated. The simple explanation is that the longer a CD’s maturity term, the more its rate will be driven by future expectations for the interest rate environment.
This is why 1-year CDs generally pay more than 5-year CDs right now, despite the opposite being the case traditionally. The expectation is that over the next few years, rates will continue to fall, so that’s affecting the rates banks are willing to pay for longer-term products.
So, where will CD rates go in 2025?
Nobody has a crystal ball that can predict future interest rates, and I’m certainly not an exception. But my general expectation is that if the Fed’s rate cuts proceed as expected (and that’s a big if), the shortest-term CD rates — say CDs with terms of one year or less — will generally follow suit. In other words, if a bank offers a 4.5% rate on a 1-year CD today, I’d expect something close to 3% at the end of 2025.
I’d expect far less movement from longer-term CDs. The top 5-year CD yields from major online banks are in the upper 3% range right now, and while they’ll likely trend somewhat lower as the Fed cuts rates, it wouldn’t surprise me if 5-year CD yields from top online banks stayed around 3.5% through 2025.