A CD, or Certificate of Deposit, is a relatively low-risk investment usually obtained through a bank or similar institution; although, some brokerage firms are now offering this type of investment. CDs offer a higher rate than most savings accounts, but they come with the same federal deposit insurance protection as a savings account. CDs earn a higher rate because you are guaranteeing a bank that they will have an agreed amount of your money for a fixed period of time.
Basically, at the end of an established period of time you cash in the CD for the original investment amount plus any interest you have earned on that amount.
Things to Know
*If you cash out your CD before the agreed-upon time period expires, there is often an early withdrawal penalty and/or loss of interest. It depends upon the terms of your CD.
*CDs may be offered with a variable rate, long-term rate, or short-term high yield rate in additional to the traditional fixed interest rate.
*Long-term CDs have a higher interest rate than others, but your money is unavailable for substantially longer periods of time.
*The bank can choose to end the term of your long-term CD investment before the CD reaches maturity, but you do not have the same option available to you. This is termed a “callable” CD and is intended to protect banks if interest rates sharply drop.
*Disclosure statements tell you the maturity date and rate of interest to be paid. Because maturity dates could be as long as 25 years, this is important to know.
*Know the insurer of your CD. The federal deposit insurance that covers your investment is limited to the combined amount you have deposited with each bank including all investment types. If you use a broker for your CDs and have more than $250k deposited in the same bank, any amount over the $250k would not be insured.
Why Invest in a CD?
*They are considered one of the safest forms of investment with a higher interest rate than is offered for most savings accounts.
*You can usually invest in smaller CD amounts, like $1000, every few months to create a regular redemption cycle and increase the liquidity of a CD investment.
*There is considerable flexibility when investing in CDs that allow you to choose the term of maturity and rate so you can find a CD that best fits your needs.
*High yield, short term CDs are available in maturity dates of less than one year. They may carry some additional risk depending upon the issuer, but in general offer you an option for more liquidity than is usually available.
*Since you are offering to loan a financial institution a fixed amount of your money, this is a buyers market. But, only if you shop around for the best rates and terms of maturity.
*You can use the internet to research rates and be well prepared to shop at regional or local banks that may offer significantly higher rates because they have a greater need to borrow your money.