Who wins in a credit crunch? Ask the person with cash

The U.S. financial system crisis -– a.k.a. the credit crunch -- is one year old this month and showing signs of getting worse instead of better, as I noted in this post earlier Tuesday.

But then, "worse" all depends on your perspective. This is a bad time to be a borrower, for sure. Mortgage rates are stuck around 6.5%, defying hopes that they would decline and spur more home buying.

The flip side, however, is that income-needy investors and savers are benefiting as interest rates in many credit-market sectors stay elevated or rise further.

And let’s not forget that there are millions of retirees out there who rely heavily on investment income to live. For them, the credit crunch is an opportunity rather than a problem. They aren't reaping huge yields, but they're doing better than they might otherwise.

Case in point: bank savings rates. They’ve been creeping higher in recent months even though the Federal Reserve has been holding its benchmark short-term rate at 2% since April 30.

Nationwide, the average one-year bank CD yield for a minimum balance of $25,000 was 2.56% on Tuesday, up from 2.37% on April 30, according to Informa Research Services. Shop around at bankrate.com and you can easily earn more than 4% on a one-year account.

CD yields have edged up in part because other short-term interest rates have defied the Fed’s attempts to pull them lower -- a sign of the financial system's continuing case of nerves.

For example, U.S. banks that want to borrow for three months in the so-called LIBOR (London interbank offered rate) market now pay 2.81%. Normally, that three-month LIBOR rate would be just 0.15 to 0.20 of a point above the Fed’s benchmark rate, notes Christopher Rupkey, financial economist at Bank of Tokyo-Mitsubishi in New York.

The higher-than-normal LIBOR rate, in turn, forces companies and other big borrowers to pay more than they’d like on their short-term IOUs. That is helping to keep money market mutual fund yields higher than they otherwise would be, at an average of 1.84% currently, according to Money Fund Report newsletter.

Nervous investors’ demands to be paid more for their money also are costing mortgage-finance giants Fannie Mae and Freddie Mac, which must borrow to fund their purchases of home loans. Freddie Mac on Tuesday shelled out a higher-than-normal annualized yield of 4.17% on $3 billion of new five-year notes it sold.

As Fannie, Freddie and other lenders face higher borrowing costs, that’s putting a floor under mortgage rates. The average 30-year home loan rate as tracked by Freddie Mac has held at 6.52% for the last three weeks, even though the 10-year U.S. Treasury note yield has slipped from 4.10% to 3.83% in the period. In normal times, mortgage rates track the T-note yield.

Borrowers have every reason to hope that the credit crunch will ease soon. But investors and savers with cash to lend have their own good reasons to want the crunch to persist. And because they’re controlling capital in a money-starved financial system, they can call the shots. They want returns commensurate with the risks they figure they're taking -- and in this economy, the risks don't appear to be diminishing.

Comments

[H]

Is it just me, or does 2.56% on 25K seem like a pretty poor deal when inflation is probably running above 5%?

[yousha]

Heck yes. One can get much better rates on CD's especially if you negotiate them with the Bank.

[Bill]

I agree with H, getting 2-3% when inflation is high is a rip-off. What needs to happen is the idiots at BLS ditch their so-called core rate of inflation, which excludes food and energy. Those costs are too volatile to use, or so they claim. How could anyone measure inflation without putting food on the table and ga$ in the tank? Banks are no help, they took a large cut in interest rates from the Fed and did not pass it along to their customers, just went on gouging them and used the proceeds to shore up reserves.

[Ron]

H, 2.56% on 25K is a crappy deal. the only people who made out are the corporate and hedge fund managers that pocketed billions of dollars in creating this mess (before they went belly up and bankrupt). anyone who has been invested or been sitting on cash has been losing money. I managed to park some money at 6.25% (for five years) right before melt down, but even that is NOT returning much due to inflation. until the Fed starts addressing inflation by raising interest rates or stocks rebound, no one is better off. (well, I suppose those shorting stocks are doing pretty good, but that's not your average investor.) you also gotta love how the private investment banks and regular financial institutions have gotten hundreds of millions of dollars of essentially free taxpayer money from the Fed (or is it trillions of dollars by now, lent below the rate of inflation) and mortgage rates are disproportionately high. while that move may have saved our entire financial system, it is just another way the average person and investor is losing over the long-term.

[PNW Trojan]

Both political parties have a keen interest in suppressing inflation rates; this keeps payments on Soc Sec, Veteran's benefits etc Cost of Living adjustments, much, much lower. Thus, more money for the politicians to BUY your mindless votes, by squandering on pork for re-election. WAR, is very profitable for your Fortune 500, and when you wrap or 'frame' this b.s. as a 'War Against Terror' it ALMOST becomes believable....BUT (you knew this was coming!) bush isn't AFTER bin Laden. Bin Laden is SAFE inn the mountains or tribal areas, and thus a quid pro quo with the Saudis and other Sunni Arab States keeps the oil flowing. Had bush taken out bin Laden, life would have gotten very complicated for the US 'Allies' in the Middle East. So, bush is soon gone, but bin Laden, lives on.

[Trudy%20Self]

Excuse me, but last year I was getting 5.31% on my cash-- with lower inflation and costs on just about everything else. I am supposed to want the credit crunch to continue so I can continue to receive negative, after interest, returns-- I do not think so.

[Tombstone Realty]

Well you do well if you have money stuffed in your mattress, otherwise the taxes you pay on your savings undercuts whatever feeble rate of interest you receive. And the fees of course, ya can't be forgettin the fees.

[Gary]

Average one year CD yield of 2.56% on $25K? Oh, please. Come on, folks.
I was able to slam $600K into a federal credit union 15 month CD at 4.80% APY two weeks ago. It took some negotiation with the CU leadership, but they bought it. Bank rates are horrible. Always have been, always will be. Get smart and start moving your money to federal credit unions.

[fred]

Who wrote this article? Henry Paulson? Gimme a break! You're worse than the Realtors.

[James Monachino]

Reminds me of Will Rogers famous saying, " I am more concerned about return of capital these days, and not as much with return on capital."

No winners in a Credit Crunch just survivors. Keep your debt profile down and remember, during a true Credit Crunch, just when you thought it couldn't get any worse and your are ready to scream, it does.

James Monachino

[Tom Petruno]

FOLKS, I feel your pain on savings rates. I'm just pointing out that, given the upheaval in the credit markets, savers are doing better than they otherwise might have with the Fed's key rate at 2%. That's the upside of the credit crunch for people with cash. I know you aren't beating inflation, but almost nobody is these days. And as several posters have noted, you definitely want to be 1) shopping around for CD rates and 2) haggling with your bank/credit union for the best deal you can get. Why not -- that's the strategy hedge fund managers use. Never take the first offer! Tom Petruno (your blogger)

[Mark]

Credit unions aren't always the answer. If they were, then everybody would move their money to a credit union. There are many online banks that pay higher rates than credit unions.

[Mark]

And I think it's safe to say that most people don't have $600K to "slam" into a savings account.

Pretty insulting attitude that some rich people have.

[anon]

Higher interest rates on on-line savings accounts and CDs are an effort by desperate banks to raise capital. I haven't thought much about credit unions, but I'd be wary of their higher rates too. Don't forget that bankrate.com is basically a creature of the banking "industry."

Do not count on the FDIC to make you whole if you are over your limit; be prepared to wait for your cash if you are under the limit; and be prepared not to be able to unlock money in your CD, even with a penalty, as fast as you want to.

The average folks who made fortunes in the Great Depression pulled money out of their mattresses and bought real estate. It could happen again. They're buying now in Palmdale, Lancaster, etc.

Was $600,000 in that federal credit union over an insurance limit?

[Ronmac]

Try the Australian dollar. I think last I saw it was yielding over 5 percent in a short term CD. There is some currency risk, but it has recently gone down with commodities and it couldn't be worse than the US dollar. The ETF yield for the Australian dollar yield is around the same.