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CDs Top Treasuries, for Moment, at Least

Investments: Banks are fearful of cutting rates on term certificates even as T-bill yields have touched record lows.


With banks reluctant to significantly cut the rates they pay on certificates of deposit in recent weeks, CDs have become a better buy for many conservative investors than comparable U.S. Treasury securities.

But CDs' advantage could quickly disappear if Treasury rates continue to rise or if some banks decide to break from the pack and begin chopping rates. Treasury yields plunged to record lows early this month, but have recovered a bit recently and have been subject to sharp swings.

The average one-year CD now yields 4.81%, compared with a yield of 4.18% on one-year Treasury bills, according to RateGram Inc.

Just five weeks ago, the rates on the two instruments were nearly identical, with one-year CDs yielding 4.93% and one-year Treasuries 4.91%.

Meanwhile, six-month CD yields now average 4.59%, compared with 4.20% on six-month Treasury bills.

Competitive forces and a need for depositors' funds to make loans have kept banks from dropping their CD rates more rapidly, economists said.

The average one-year CD yield has fallen by just 0.11 of a point since Sept. 29, when the Federal Reserve cut its key interest rate by 0.25 of a point.

"Since other banks aren't moving their rates, most banks have got to stand pat," said Keith Leggett, senior economist with the American Bankers Assn.

Banks have found it difficult to drop rates in an environment when yields are already at generational lows, said Martin Bradshaw of Bradshaw Financial Network, whose RateGram tracks savings yields.

"When rates were closer to double digits, the banks could drop them [yields] in parity with what the Fed did," Bradshaw said.

Treasury yields, by contrast, have been pushed down in recent weeks by safety-conscious investors fleeing market turmoil domestically and abroad. The huge demand has raised Treasury prices and lowered yields, which move in the opposite direction.

The trend toward lower yields was interrupted last week by a sudden strengthening of the Japanese yen. Many investors who had borrowed yen to buy Treasuries scrambled to reverse those trades, sending short-term Treasury yields higher--but still below current CD rates.

Even so, Treasuries remain a better deal for the wealthiest investors, since the interest they pay, while federally taxable, is exempt from state income taxes. CD interest, by contrast, is subject to both federal and state taxes.

But yield-hunting investors can find one-year CD yields high enough to far offset Treasuries' tax benefit. For example, one-year CDs are offered at 5.85% at Advanta National Bank in Wilmington, Del., or 5.6% at NetBank in Atlanta.

Investors who would rather stay closer to home can look for deals at credit unions and savings and loans, which typically offer slightly higher rates than banks.


The Rate Gap

The gap between yields on bank certificates of deposit and comparable U.S. Treasury securities has widened as Treasury yields have fallen while CD rates have held up. A comparison of average national CD and Treasury yields:

CD yields

6-month: 4.59%

1-year: 4.81%

5-year: 5.08%


Treasury yield

6-month: 4.2%

1-year: 4.18%

5-year: 4.24%

Source: RateGram

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