Amid this year's dramatic comeback for certificates of deposit, middle- term instruments are suddenly basking in the limelight.

Bankers and consumers, who had been leaning toward shorter-term CDs, are now showing a marked appetite for CDs with maturities of one to 2#1/2 years.

Small time deposits in this range grew at a 25% clip, to $117.2 billion, in the 12 months that ended in February, according to Federal Reserve data. Growth in this slice of the market for CDs with balances of $100,000 or less outpaced every other category.

The shift to middle-term CDs took hold in November, when banks began aggressively pricing the instruments to fuel loan demand. Until then, the Fed data show, CDs with maturities of six months to a year made up a bigger slice of the pie.

Economists say it's not hard to see why consumers are moving out on the maturity spectrum.

"They're apparently being offered enough that they're willing to tie their money up," said a financial economist at the Federal Reserve Bank of Chicago, speaking on background.

Small time deposits have traditionally been important to banks seeking to expand lending, according to Paul Kasriel, chief domestic economist, for Northern Trust Co., Chicago. And in the past three months, "loan demand has really exploded.

Gary Ciminero, chief economist at Fleet Financial Group, Providence, R.I., said the rapid runup in middle-term CD volume is happening in part because the rate of increase in deposit yields is catching up with acceleration in other key interest-rate gauges.

To feed rising loan demand, banks started some "heavy lifting" of CD rates late last year, Mr. Ciminero said. Until the third quarter, he added, banks had been slow to react to rising yields on Treasury instruments.

The monthly average yield for the benchmark one-year CD soared to 5.74% in March, from 3.18% a year earlier, according to RateGram, a weekly newsletter published by Bradshaw Financial Network, Issaquah, Wash. More strikingly, 2#1/2-year CDs yielded an average of 6.19% in March, up from 3.74% a year earlier.

Bankers say customers are clearly responding to the higher yields.

At Cleveland-based Keycorp, one- to two-year CDs are being marketed actively and account for the lion's share of new business, according to Eric Chester, vice president in charge of deposit products. In March, the banking company's CD volume was 50% higher than the year-earlier level, he added.

Wachovia Corp. has done the bulk of its CD business over the past four months in one-year and 18-month instruments, according to W. Doug King, executive vice president of retail products. That's happening even though the Winston-Salem, N.C., banking company has been promoting higher-yielding six-month and three-year CDs in an effort to back a credit card expansion.

Fleet's Mr. Ciminero said banks have no choice but to continue offering attractive interest rates on middle- and long-term CDs.

"The Federal Reserve warned banks last February that it was not going to fund loan growth, but that banks would have to do it the old-fashioned way" - with deposits.

Mr. Ciminero said he expects middle to long-term time deposits to continue to grow in proportion with loan demand, "about 5% to 7% this year."

Mr. Ciminero added that some of the CD activity is coming from disgruntled mutual fund investors. "Many people got their fingers burned in bond funds," he said. "You can infer that a large percentage of that money went into CDs."

Edward E. Furash, chairman of Furash & Co., a financial services consulting firm in Washington, said he doesn't think the shift to deposits is a long-term trend and that mutual funds will regain favor with consumers.

He acknowledged, however, that with so much money locked up for the next few years, bank competitors are in for a rough time getting their share of consumers' wallets.

"It's going to be more difficult to sell long-term bond funds until interest rates begin to go down."

- Debra Cope contributed to this report.

Subscribe Now

Access to authoritative analysis and perspective and our data-driven report series.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.