Bank CD Rates Moving Higher at the 18 Bank Holding Companies the Federal Reserve Just Tested?

The Board of Governors of the Federal Reserve System tests the 18 largest bank holding companies in the United States to see if they can withstand a steep recession. This test was created after the financial crisis of 2007 and the subsequent recession to see if the largest banks would fail or need large infusions of capital to withstand another crisis.

If you think back to the financial crisis and recession, some banks were scrambling to increase capital by offering CD rates that were considerably higher than rates most banks were offering. For example, one of the banks that was put into receivership (failed) by the FDIC was Washington Mutual Bank. At the time, WaMu had one of the best CD rates by a wide margin on 1 year certificates of deposit.

WaMu was offering 12 month and 13 month rates at 5.00 percent while most 12 month CD rates at banks were much lower than WaMu's rates. Monitor Bank Rates reported on WaMu offering 5.00 percent CD rates on those two certificate of deposit terms back on August 23, 2008.  Just a month later, on September 25, 2008, the FDIC put WaMu into receivership. You can read the original post here: Washington Mutual 5.0% APY 13 Month CD.

This is the third round of bank stress tests by the Federal Reserve since the tests in 2009. The good news is all 18 banks passed the tests though some banks fared better than others. The main point of the tests were to see what the capital ratios of the banks would be during another financial disaster. The scenario in the test included the following:

• A top unemployment rate of 12.1 percent
• A drop of more than 50 percent in equity (stock) prices
• A drop in housing prices of more than 20 percent
• A combined loss of $462 billion by the 18 bank holding companies

The above test scenario is very unnerving but very similar to what actually did happen during the financial crisis and "Great Recession." In the Fed's test, the third quarter of 2012's actual capital ratio was compared to what the ratio would be with the scenarios in the test by the fourth quarter of 2014. Ten of the banks had just the minimum capital ratio, which means they passed but might need to increase capital.

The traditional way banks increase capital is by increasing deposits, which is usually done by offering higher CD rates and higher deposit rates on other interest-bearing assets. Don't expect these banks to offer rates well above the best CD rates currently available, because another rule was put into place since the last recession.

Back in May 2009, the FDIC Board of Directors put into place a rule (Part 337.6 of the FDIC Rules and Regulations) that restricted interest rates that less than well capitalized institutions could offer. The cap is calculated by adding 75 basis points to the national average rate on a certificate of deposit.

Current 1 year bank CD rates are averaging 0.23 percent, which means the maximum CD rate a "less then well capitalized" bank could offer on 1 year CD rates is 0.98 percent. The ten banks that have only the minimum capital requirement in the test scenario by Q4 2014 might increase their CD interest rates, but not much higher than the best rates currently available.