CD 101


Most investors are primarily concerned about two things: return on their investment and risk. Certificates of deposit (CDs) address both of these investor concerns by yielding moderate returns with minimal risk. CDs provide supplemental income while also balancing out other, high-risk portfolio investments.

CD Basics

A CD is a form of savings account and is classified as a time deposit. CDs earn more interest than an ordinary savings account, often by several percentage points. In exchange for a guaranteed rate of interest, an investor in a CD agrees to leave the deposit in the CD for a specified period of time (until “maturity “). As part of the terms of the CD, a penalty – often lost interest – may be incurred if money is withdrawn early.

Advantages of CDs

What You Need to Know About Certificates of DepositCDs are offered by banks and are easy to open. It’s a simple process that can be done by completing a quick form or, in some cases, over the phone. Certificates of deposit also provide peace of mind. Insured by the Federal Deposit Insurance Corporation (FDIC) up to $250,000, CDs are considered to be one of the safest investments. With maturity dates ranging from three months to five years or longer, CDs are typically short- to mid-term investments. Some CDs offer a low minimum deposit, sometimes as low as $500. The minimal deposit requirements and varied maturity dates make CDs flexible investment options. CDs are great investment vehicles for saving for large purchases, such as a new car or a down payment on a home.

Interest rates on CDs are determined based on a number of factors. Typically, the larger the CD, the higher the interest rate. A jumbo CD, which can have a minimum denomination of $100,000 or more, sports the highest rates. Alternatively, CDs with longer maturities, in the two- to five-year range, also provide higher returns. The CD market is highly competitive, allowing for equally competitive interest rate returns.

Savvy investors use the laddering strategy when purchasing their CDs, in order to maintain liquidity or access to a portion of their money. Instead of placing all their funds into one large CD, investors who utilize the CD ladder technique distribute their funds into multiple CDs with staggered maturity dates. This laddering strategy also reduces the risk of incurring a penalty due to early withdrawal. Laddering of CDs is a great method to have funds available for children’s college tuition or for retirement. Some CD terms also allow the investor to reinvest earnings or roll over the CD, which offers additional flexibility.

CDs Compared to Other Financial Instruments

CDs have a number of advantages in comparison to other financial vehicles. As long as the amount is within FDIC insurance limits, the risk associated with a certificate of deposit is minimal. Since CDs are not affected by stock market fluctuations, there’s no worry about stock market volatility or losing principal. You also don’t have to conduct a lot of research to select a good CD, unlike stock and bond portfolios. For these reasons, many people prefer to purchase CDs rather than “play” the stock market game. Beyond the risk consideration, CDs offer a considerably higher interest rate than checking accounts and savings accounts.

If the idea of earning a guaranteed return with minimal risk sounds good, or if the CD laddering strategy sounds intriguing to you, contact us today to discuss the CD options available to you.

 

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