CD rates will remain low in 2012, so it's time to take on some risk

Safe in shape of dollar sign

We'll give it to you straight: 2012 is going to be another horrible year for savers.

Average CD and savings accounts will continue to pay virtually no return, and even the best yields won't keep up with inflation.

"There's nothing good for savers with interest rates in 2012," says David Nice, associate economist for the investment management firm Mesirow Financial. "We don't foresee any rise in yields, and we expect it to remain flat throughout 2012."

But that doesn't mean there aren't alternatives out there to earn some extra cash. You'll just have to take on a little risk.

Rates can't get much lower

CD rates have been in free fall for several years now, setting new record lows at the end of 2011. Still, rates have fallen so far for so long that they can't get much lower.

Between the start of 2010 and the end of 2011, average rates in most terms we track fell about 60%.

Two years ago, the average 60-month certificate yielded 2.1%; today it pays 1.15%. For a 12-month certificate, the average rate has fallen from 0.81% two years ago to 0.34% today.

But the rate of decline on short-term certificates of deposit slowed in 2011, an indicator we might be nearing the bottom.

Even so, that's little comfort to savers who depend on decent interest rates of between 3% and 5% in order to live.

How far have average CD rates fallen?

Term Jan. 2010 Dec. 2011 % Change
3-months 0.36% APY 0.15% APY -58%
6-months 0.50% APY 0.22% APY -56%
12-months 0.81% APY 0.34% APY -58%
24-months 1.23% APY 0.51% APY -58%
36-months 1.54% APY 0.67% APY -56%
60-months 2.10% APY 1.15% APY -45%

No increased rates in 2012

Even if rates don't fall much further, they aren't going to improve anytime soon, as the Federal Reserve has pledged to hold interest rates at record lows at least through mid-2013.

The Fed influences bank interest rates by setting what's called the federal funds rate -- what banks pay to borrow money that other banks have on deposit with the Federal Reserve.

Since December 2008, the Federal Open Markets Committee has essentially been loaning money to banks for free in an attempt to spur lending and boost the economy.

There aren't any signs the economy is going to heat up enough in 2012 to help reverse the Fed's decision and the negative rates trend.

"The Fed is locked into the health of the economy, and I think short-term savings rates are going to be negligible" for much of next year, says Robert Johnson, director of economic analysis for the investment research firm Morningstar. "The economy picking up a little steam will have a positive effect on 2012, but I don't think it's big enough to cause a big bust out (on interest rates)."

Best rates still don't keep up with inflation

More bad news: You'll lose spending power with even the best federally insured deposit accounts because of inflation.

The top nationally available 5-year rates now pay 2.2%, while the best savings and money market accounts yield just 1.3%.

Compare that to the Consumer Price Index, a measure of inflation that increased 3.4% between November 2010 and November 2011.

Your investing power is even worse with shorter-term CDs, which is why we recommend savers lock in the longest-term certificate with the highest rate they can find.

With the stock and bond markets in constant turmoil over the U.S. and European economies, it's a good idea to keep some of your money in an investment where your principal is safe.

A good place to start your search is our database, where you can find the best CD rates from numerous institutions.

Just know that even with the best of these certificates of deposit, your purchasing power is being eaten away.

For example, let's say inflation is running at what Inflationdata.com says is the historical level of 3.24% annually.

Your $10,000 this year will really only be worth $9,676 next year and $9,352 the year after that. At that rate, within 20 years your money will be worth less than $5,000 in real terms.

This is why it is critical that you look for investment opportunities that can earn more.

Seek out alternatives and take on a little risk

You can find higher yields, but most of these investments involve risking your principal.

Start with a good, safe bet: Series I Savings Bonds.

While the yields change every six months based on inflation, your principal is protected. The U.S. Treasury currently pays 3.06% APY, but there's an annual limit to how much you can invest in savings bonds.

If you want to do even better, you're going to have to take on risk with stocks and bond funds. They are not FDIC-insured, and you can lose money -- sometimes a lot of it.

But if you've got the chance to earn 5% when your only "safe" options are paying far less, you just might consider it.

Start by checking out a couple of good dividend-paying stocks.

There are a number of solid companies that pay 3% to 6% annual dividends. A few good choices include Verizon, Coca-Cola and Exxon Mobil.

You can minimize some of the risk and volatility by picking a stock with a beta (a common measurement of how volatile a stock is compared to the overall market) below 1 and by holding the stock for a few years to weather ups and downs.

You can also look to international bond funds, where you can earn 3% to 4% with minimal risk.

These are mutual funds or exchange-traded funds that invest in bonds issued and backed by foreign governments.

Interest rates in those countries are not at record lows as they are in the U.S., so the yields are better.

Foreign bond funds also historically have performed better than U.S. bond funds.

Start by looking at diversified funds that hold bonds from many stable countries like Japan, Germany, the United Kingdom and France.

You can buy bond funds and stocks from any stockbroker, including online brokerages like E*Trade and Scottrade.

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