Fixed and Variable Rates
Posted By: Dr. Frugal in Loans on 09/02/2007 at 16:53:06
Banks offer interest-bearing accounts in a variety of formats. Most bank deposits have fixed rates, although the rates may adjust periodically. For example, simple savings accounts and interest-bearing checking accounts usually pay low interest rates. The bank ties the rate to some key interest index that is relatively stable, so rates don't change very often. However, as market conditions change, the bank will adjust their savings and interest-bearing checking rates.
Bank CDs are (usually) fixed rate for their full term. If you buy a two-year CD with a 5% interest rate, it will earn the 5% until it matures two years from now. However, if market conditions change, the bank may adjust the interest rate on new two-year CDs. The exception to this is accounts tied to current money market rates. These products have interest rates that change more frequently.
It is crucial to understand what type of interest rate you are getting when you open an account with a bank. The bank has to disclose how the rates are determined and how often it can change.
As far as loans go, it's even more important to know what type of interest you are paying--fixed or variable--on your loans. This is information the bank must share with you before you commit to the loan. The banks, naturally, will want to keep the rate as high as possible and still be competitive. Here is a list of common types of loans and what type of rates you can expect: credit cards (F/V), auto loans (F), personal loan (F), home equity loan (F/V), 30-year fixed mortgage (F--duh), ARM (F/V). Notice the ARMs (adjustable rate mortgages) are noted as (F/V)--they come in both the fixed and variable varieties. Lenders can be brutal with the interest rate hikes if you don't know what to be looking for when you agree to the loan. A common strategy is to offer low "introductory" rates that expire quickly and then fly upwards leaving you with an extremely high rate for the duration of the loan. When you see those advertisements that say "get a $300,000 refinance for just $800/mo" that's what I'm talking about.
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