Dec 19 When the online banking site SmartyPig.com dropped its savings interest rates yet again recently, many of the institution's goal-oriented savers - who joined up to get better interest rates on their cash deposits - watched in dismay.
As one of the bigger names in that space, SmartyPig was taking a big step to drop its yield below a line with symbolic meaning: 1 percent. It was the third time since August 2010, when the website (which places savings accounts at BBVA Compass, an FDIC-insured bank) was offering 2.15 percent on savings, that it has cut rates.
Interest rates these days are puny, but the latest decline - from a leading position at 1.1 percent to 0.7 percent - rubbed SmartyPig customers the wrong way. SmartyPig's own blog was filled with angry comments from users.
"This is terrible. I've recommended SmartyPig to friends time and time again, and successfully sent some customers your way," one customer wrote. "But now, it's time to move. My typical bank now offers more competitive rates. I didn't join SmartyPig all that long ago, and I remember it at 2.65 percent. So disappointing."
SmartyPig spokeswoman Sarah Foss wouldn't comment on the latest drop or the fallout. But the move is emblematic of what a lot of other online banks are experiencing. ING Direct dropped its rate to 0.85 percent earlier this month after lowering it from 1 percent to 0.9 percent just a bit over a month earlier. Depositaccounts.com lists only eight banks now paying 1 percent or more on savings accounts, topped by UFB Direct at 1.3 percent.
While a lot customers are complaining, Internet banks aren't folding up and going away any time soon. "It takes a lot for a customer to actually switch banks," says Jacob Jegher, senior analyst in research firm Celent's banking group. As unhappy as consumers might be with the interest declines, he doesn't see any major shift coming.
In the first place, online banks still tend to offer higher interest rates than can typically be found at their brick-and-mortar counterparts. A common basic savings rate at the biggest brick and mortar banks is 0.05 percent, based on a Reuters review of the published rates of several major banks. On a $10,000 deposit, the difference between earning 1.3 percent interest ($131) and 0.05 percent ($5) over one year is $126.
When consumers do the math and realize there's little to be gained by shifting their small accounts to pick up half a percentage point or less, they'll stay put to avoid the hassle of shifting accounts. "What would be the incentive for the customer to switch?"
So instead of focusing on their puny rates, online financial services companies are hyping their lack of fees and aggressive cash-back and rewards programs. Fees can add up. On checking accounts at regular banks, for instance, Bankrate.com estimates the average account comes with $170 a year in fees, so an online account that offers totally free checking can be worth more than a fraction of a percent more in interest, especially to small savers.
Still, the numbers sting some customers. Cynthia Nevels, who runs a Houston, Texas, management consultancy, says she had been saving the maximum insured amount ($250,000) on ING Direct bank because of the advantageous rates, but the last interest rate drop on top of the company's impending sale to Capital One is too much to ignore.
"It just really rubbed me the wrong way to be reducing the rate once again," she says. "Their expenses aren't necessarily going up or increasing." But Nevels hasn't actually moved her money yet. She says she'll find another online bank to shift her money to when she gets around to it.
IT'S ALL RELATIVE
Of course, there isn't any bank now paying the 4 percent or better interest rates that used to be everywhere pre-credit crash in 2006. Greg McBride, senior financial analyst Bankrate.com, says consumers shouldn't focus on the interest rate declines or think online banks have lost their edge. It's all relative, given that lending rates are also at all-time lows.
"Online savings accounts are still at the top of the heap," he says. "The banks that have the most aggressive payouts now, even though the numbers are low, are likely to pay out higher returns once interested rates start to go up."
Dan O'Malley, CEO of PerkStreet Financial, is banking on consumers buying into his company's model of getting cash back from spending using debit cards tied to PerkStreet accounts. (Like SmartyPig, PerkStreet is an online financial services company that has ties to an actual bank; in this case it is Bancorp Bank in Delaware). PerkStreet offers only checking accounts and pays no interest; just cash back. And he sees the industry moving more in that direction.
"Savings account are a gigantic misnomer. They don't help people save," he says. "You've seen some banks launch the ability to get deals with specific merchants. That's a great idea."
From a marketing point of view, O'Malley sees bigger benefits in rewarding people for spending, instead of trying to compete on interest rates for small accounts. "The average person in the US doesn't have that much sitting in their checking account," O'Malley says. "We wanted to create a checking account, really a whole banking relationship, built around giving them cash back."
Frank Trotter, president of EverBank Direct says online-only institutions retain their advantage of lower overhead and, as such, should provide better rates, less reliance on fees and other consumer-friendly advantages.
"Looking at the market as a whole, online banks are continuing to provide some of the best value for savers across the board," he says. "As we survey checking and money market account rates nationwide, there are very few banks that are saddled with an expensive branch network that appear to even attempt to be competitive for rates."
The author is a Reuters contributor. The opinions expressed are his own. (Editing by Linda Stern and Beth Gladstone)