The ease of setting up an account, its web interface and bill paying features, the absence of fees and minimum balance requirements, and decent interest rates compared to its competitors have provided more than enough reasons for ING Direct customers to use the online bank. And while ING Direct’s interest rates have fallen considerably since the Great Recession, the current rates offered by the bank have remained competitive and therefore attractive for customers.

Capital One Bank has traditionally rather competitive money market and savings account rates without monthly service fees. However, by contrast to ING Direct, it has never been a bank known for providing excellent rates and outstanding service. Nevertheless, in acquiring ING Direct and converting its name to Capital One 360, the bank has made the following pledge on the ING Direct website. "We’ll deliver real value. We’ll continue to be home to no-fee, no-minimum checking and savings accounts—with the great rates that we know are important to you."

But the question remains if the bank will be able to keep this pledge, especially if rate cuts similar to the ones in October 2012 continue. At that time, the bank’s Orange Savings account rate fell 5 basis points to 0.75%, and its Electric Orange checking account also fell by 5 basis points across all deposit amounts (The rate for balances of $100K or higher, and the rate for balances between $50K and $100K are now at 0.85% and 0.80%, respectively). Additionally, all CD rates fell 10 basis points, with the 5 year CD being at only a mere uncompetitive 0.90% now.

In addition to possible changes in interest rates, what other changes should existing customers expect to see? First, there’s good news for the frequent traveler. The bank has waived foreign exchange fees on debit card purchases outside the U.S, consistent with Capital One’s policy. Second, with “On Us” checks, money will be made available sooner to customers. Checks (“On Us” checks) written from one ING Direct or Capital One 360 account and deposited into another will have next business day availability. Third, all accounts will be covered by Capital One’s tighter privacy policy.

One significant note of importance is that customers with large deposits at both ING DIRECT and Capital One may lose FDIC coverage in May 2013. Any customer whose balances across both accounts between the two banks will exceed FDIC coverage amounts on that date should reallocate their assets prior to May.

Now that the legal acquisition of ING Direct was completed on November 1, 2012, customers may see lower rates and a deterioration in service levels. Overall, customers have continued to be loyal to ING Direct because of its competitive rates. But with more rate cuts like those in October and any slippage in service, and customers may begin to leave quickly and en masse.

In September 2012, the Fed said it expects to keep short-term interest rates near zero until 2015, and to continue its Operation Twist policy to suppress long-term rates well into 2013. In addition, the Fed is now undertaking QE3 through which it is pumping $40 billion each month into the struggling economy through mortgage bond purchases.

The arguments made for keeping rates low were due to concerns about high unemployment rates and “strains in global financial markets” and that low rates will stimulate more economic activity. In theory, in a low rate environment, consumers will be induced to borrow and to spend, but the economy has yet to recover its footing in a way that enables the Federal Reserve to abandon this policy. Rather, unemployment is still at a record high and the economy really has not gotten much better. Nevertheless, the Fed, by insisting to keep rates low, is bidding for some progression in the story over the next few years.

Many are concerned that the expansion of the Fed balance sheet as a result of its monetary policies will become inflationary. As of now, inflation has been in check due to the declining velocity of money with the public sector and corporations cutting back on debt. Public sector borrowing will most likely be further reduced in 2013 through spending cuts and tax increases, slowing the velocity of money even more, and helping to keep inflation in place.

Even if savers are not worry too much about inflation at the point, what does a continuation of a zero interest rate policy really mean to them? Low rates mean that yields cannot go any lower, and with virtually no return, there is no reason to park any money in bonds. Eventually, all the money that the Fed is pumping into the economy and low rates for savers could result in still higher stock prices.

Commodities too represent a particularly sensitive area in 2013. As the Fed continues to print money in support of its quantitative easing policy, the dollar will most likely remain weak. With Obama’s reelection, some pundits are calling for gold as high as $3,500 per ounce and silver over $100 per ounce by the end of 2013. Yet, commodities too bear risks, and a significant collapse in China or India or continued weakness in Europe could cause them to fall dramatically.

Ultimately some savers will take more risk in areas like equities and commodities as low rates continue for a longer and longer period, but many savers will become accustomed to lower rates and make necessary adjustments in their expectations in order to safely get through 2013.

Savings and CD rate averages continued to decline last week, with the one year CD average falling from .419% to .418% APY. Five year average CDs fared even worse falling from 1.204% APY to 1.196% APY. Online savings rates from the banks offering the top 30 nationally available rates remained steady at .732% APY for the seventh week in a row.

Election Impact on Savers

With the election over we can now look towards the fiscal cliff as the next big event that may impact the fortune of savers. Here are a couple of scenarios and some thoughts on how each one might impact savers.

• We go over the cliff. Taxes will rise across-the-board, including on income from savings and CDs. As a result, the already meagre gains from money in the bank will become even smaller. As the economy slows from tax increases and spending cuts, the government will keep interest rates pegged at record low rates for an even longer period of time.
• The cliff is averted via a temporary detour. Congress and the President decide that in this lame-duck period (for Congress) to bypass the fiscal cliff and put in a temporary respite from tax increases and budget cuts. This will maintain the status quo. Rates will remain low for an extended period of time (perhaps through 2016) on deposit accounts but no significant new taxes will be taken out of income.
• A grand bargain is struck to avert the cliff. A grand bargain is potentially the best outcome for savers, depeneding on the contours of the deal. A compromise would show that the government can still function and boost confidence in the economy. Most of the compromises being discussed now would not increase income taxes on the vast majority of savers. So, increased confidence and little to no tax increase may result in higher rates in the medium term as the economy continues to grow and recover from the financial crisis of 2008.

Savings Options

Should a saver open a savings account or a CD? A shorter-term CD or a longer one? The chart below shows the comparison between the yield of a 5-year CD and a 1-year CD. Notice that this difference has shrunk considerably over the past year as the yield on 5-year CDs has dropped by more than the yield on a 12-month CD. This drop continued last week.

Not much has changed with the various product spreads. While the spread started the year at 1% or 100 basis points, it is now .778%. As a comparison, in 2008, this spread stood at .43% while in 2010 it went as high as 1.56%. So right now, it's somewhere in the middle. Why does this matter? Because back in 2010 banks were paying a saver a lot more to invest in a 5 year CD versus a 1 year. Today, banks are giving about half the premium they did a few years ago to lock up your money for 5 years. In 2012, I advised savers to consider investing in 5-year CDs because of this premium: the economy looked stuck for quite some time, and inflation did not appear to be a problem. Now, with the premium down, and the economy growing (albeit not that fast) it's a bit of a harder case to make. If the government takes the economy over the fiscal cliff, then it makes sense to put money in longer-term CDs as the potential for another recession becomes much higher. If a compromise can be reached, I'd invest in shorter-term CDs. Consumers might want to consider laddering their CD portfolio in this rate environment.

What about the comparison between savings and CDs?

This spread has actually been growing. Online savings rates have, for the most part, maintained their rates while CD rates continue to fall. For short term savings, it appears to make more sense to park money in an online savings account versus a CD. Online savings accounts have remained very stable over the past year.

Interest Rates

My rate prognosis depends on what happens with the fiscal cliff. The most likely scenario is that a temporary fix is put in place that averts a jump in taxes and cuts due to sequestration. Based on that, I believe that:

Rates will continue to drift lower for the next 12 months. After that, it's hard to tell. I suspect that rates may go up before 2015.

For now though, savers can make the best of a tough situation by getting the very best rates on their money. Remember, even in today's environment, there is competition for your cash.

I hope this is helpful. If it is, let me know and I'll keep writing. Drop me a note or post a comment below.

Have a nice week. Until next week...

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