In the absence of much actual movement in money market rates, depositors have to read the tea leaves of financial news for signs that the trend in rates may be about to change. This has been a frustrating exercise, given all the conflicting signals emitted by this economic recovery. The latest mixed signal is in recent bank earnings.
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Banks and their customers have a curious relationship. In some respects, the relationship is adversarial - banks profit by charging customers more fees and higher interest on loans, and by giving customers less service and paying lower interest on CDs, savings, and money market accounts. In other respects, the interests of banks and their customers are aligned - bank can use customer deposits as capital for lending and other financial activities, and the more profitable those activities are, the more they can pay depositors in interest.
It is these aligned interests that make bank profits worth watching for depositors, because higher profits can translate to better CD, savings, and money market rates.
The backdrop - rock bottom money market rates
The backdrop to all this is that money market rates remain mired at extremely low levels. In large part, this is a reflection of how far interest rates fell in the recent economic crisis. Low demand for capital, coupled with Federal Reserve intervention to drive interest rates down, caused interest rates generally to drop precipitously. Money market rates certainly were not immune.
Even so, there is more going on with money market accounts and other deposits, something which seems to be keeping those rates lower than they should be. After all, as the economy has started to improve, Treasury bond yields have risen over the past 6 six months, and so have mortgage rates. Meanwhile, money market rates have not only failed to join in these increases, but they've actually slipped a little closer to paying no interest.
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The reason money market rates and other deposit rates are defying the broader interest rate trend is that until lending demand picks up, banks have little need to attract deposits. This is why bank earnings reports should be of interest to depositors looking for signs that rates will rise - any indication of improved lending profits could lead to higher deposit rates.
Recent earnings - the wrong kind of profits
In this context, first quarter earnings reports have represented mixed signals for anxious depositors.
The consensus among bank analysts was that major U.S. banks would report improved earnings for the first quarter of 2011. Unfortunately, the nature of those earnings holds little hope for money market rates. By and large, the earnings improvement is not coming from growth in key business lines, such as lending. Instead, banks are finding fewer of their old loans going bad, so they are able to set aside less money in reserve, and reclassify the difference as profits.
In short, banks are showing the wrong kind of profits, at least as far as deposit customers are concerned. Without a pick-up in lending, there is no reason for banks to attract more deposits. Indeed, being able to reduce their reserves for bad loans may leave banks with even more cash at their disposal. Thus, no reason yet for banks to offer higher money market rates.
The original article can be found at Money-Rates.com:
Your bank made money -- will you?