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Investing 101

Investing in CDs

August 29, 2019


Who doesn’t like low-risk investments? If you don’t have a plan to use cash reserves the next week or next month, there are a slew of options you can use to earn a good rate of return, and Certificate of Deposit (CDs) is one of them. Many investors use CDs as part of their large savings strategy. It can optimize not only the fixed interest rates but also different term lengths.

There is no denying that investors have been facing a dilemma for a long time when it comes to choosing a low-risk plan. They want a stable investment plan that has little to no interest rate, and which generate a comparatively higher yield.

Luckily, the lower-risk investment rates, including short-duration bonds, market funds, and CDs have not moved up too much in the past few years. This has compelled investors to reconsider their choices for sideline cash.

CDs, in this regard, allow investors to take full advantage of their cash portions. With their low-risk investment rates, appealing liquidity, and maturities, CDs are undeniably worth a look.

What are CDs?

A CD is a saving account that gives investors a fixed interest rate and a long-term range of three to five months. When an investor deposits money in a CD account, it locks in an interest rate with a long term length. Generally, the interest rate depends on the term length. That means long-term has a higher interest rate. It can be tremendously beneficial for investors when the interest rate is high.

 It is worth noting that most CDs or any high-yield saving accounts need a minimum deposit at least from $1000 to $25,000. Many finance experts consider CDs a money deposit vehicle that can be beneficial for all types of investors. The quality that sets CDs apart from other low investment accounts is its high bank rates that they pay when interest deposit is meager.

To put it simply, CDs lock in your money for a specified time if they are not of immediate use. Investors may be charged with a penalty if they access the money before the set-up term of the CD.

Types of CD Investments

 Deciding which type of CD meets your financial needs is the first step when choosing one.  Take a look at the different types of CDs to make the right decision.

· Short-term CDs

CD term refers to the time that is required to save money in a CD account. CDs offer a variety of terms, beginning from thirty days to five years. Short-term CDs are typically based on a one-year term. It is better for the savers to look for six-month rates when locking in money.

· Long-term CDS

As the name implies, this CD includes terms of more than one year. Because of its greater time length, it locks up money for a longer time and provides a higher interest rate.  As mentioned earlier, the longer the CD terms, the higher its interest rate. 

Therefore, it is considered ideal for investors who do not need to access money for a longer period.

· Jumbo CDs

This type of CD refers to an amount of $100,000 or greater than this.  If an investor is willing to make this kind of investment, considering jumbo CDs is the best idea.  In addition to that, Jumbo CDs often pay a high-interest rate as compared to ordinary CDs with the same term length.

· Variable-rate CDs

When it comes to offering interest rates based on expected changes in the market index, the role of variable-rate CDs is important. That means, unlike other CDs that have a fixed interest rate on their term, this type of CD is designed to offer variation over time according to a volatile market index.  While it is an attractive component if the market is likely to increase its rate, it may work against investors if it falls.

· Step-up CDs

This type is an alternative if investors are not satisfied with automatically changing rates.  It offers limited opportunity to investors to reset their rate in case the market rates are high.  

· Brokered CDs

Offered via brokers, this type of CDs is all about finding better interest rates.  Brokers are the professionals who have the right market knowledge as well as bargaining power to help investors find good interest rates that they might not be able to get on their own.

Pros & Cons of Investing in CDs

Like every other investment, investing in CDs has its pros and cons.

Benefits of Investing in CDs

  • CDs, which are taken from credit unions or insured banks, are usually backed by the US government. This makes CDs a bank-subsidized investment, which is undoubtedly a great benefit.
  • CD holders have better returns as compared to saving deposits because banks pay a higher yield to CD investors for locking up money.
  • CDs come with a wide range of terms to help investors choose the best one for their needs.

Risks of Investing in CDs

  • Limited liquidity is one of the major drawbacks of CDs.  Investors cannot access money if they are in an emergency or face any unanticipated need.
  • Inflation is a red flag for CD investors as the rates tend to rise and drop with it. CDs account holders’ money can lose purchasing power if inflation overtakes interest gains.

Investment in CDs– FAQs

  • How do CDs work?

When CDs are purchased, the insurer guarantees an investor a return rate based on its amount and the length of the term.

  • How CDs credit interest?

It typically depends on the type of CDs, and the bank an investor chooses. Most banks compound credit interest on a daily and monthly basis. Some banks do it on a yearly basis.

  • How Can I cash out my CDs?

To cash out your CD when the term ends, do not renew your CDs.

Key Takeaway

Overall, CDs are the agreement deposits for a specified period with a bank that pays you back your money with interest. It is a type of commitment that is suitable for anyone who doesn’t have immediate spending plans.

 

Sources

https://www.thebalance.com/certificates-of-deposit-3305913

https://www.bankrate.com/banking/cds/the-pros-and-cons-of-cd-investing/

https://www.money-rates.com/cd/8-types-of-cd-accounts.html

 

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