Mainly issued by banks, a certificate of depositing, or CD for short is a popular investment instrument. To use it, investors keep their funds locked for a pre-defined period. Banks pay them high returns on a monthly, quarterly, or annual basis depending on specific conditions.
In simpler words, a certificate of depositing definition means one keeps his or her investments aside leaving them for the bank for a fixed time frame.
In this article, we will discuss how CDs work as well as the main pros and cons a certificate of depositing delivers to investors.
To make things simpler for beginners, we can describe a certificate of depositing as a premium saving account. It generally offers higher interest rates and bigger returns compared with a traditional savings account.
The main difference is that a traditional savings account lets people use the money whenever they need it. As for the CD, investors must leave their capital untouched until the agreed period is over. In other words, you will not have a chance to withdraw cash or spend money before the end of the tenure. It leads to the lack of liquidity or inability to maintain daily tasks in case of unexpected cash requirements. If one insists on withdrawing funds, it will result in penalties and reduced interest rates being paid off.
When the CD term is over, investors get the original sum plus the earnings generated by the compound interest. Despite the lack of liquidity and certain risks, a certificate of depositing is still one of the most preferable and highly attractive investment methods.
To understand if this particular type of investment suits your needs, we need to highlight some of the main CD features:
The good news is that certificates of depositing are negatable. It means you can sell them in the secondary market.
Now that we know all CD features, we can review all available types. They are offering different interest rates and time frame models.
A conventional type of investment with a fixed interest rate. Its main features include strict penalties for withdrawing cash earlier than agreed. Additionally, funds are protected by federal insurance. In other words, it is a brick-to-mortar type of depositing with higher rates.
This option makes it possible for an investor to raise the interest rate if it increases after the agreement. However, with this CD, investors get lower interest rates compared to the standard one. If the rates do not hike, you will be left with initial earnings.
The stand-up certificate of depositing works much in the same way as the bump-up. The only difference here is that the interest rate raises automatically together with the hike. Investors do not have to ask a bank to increase it. The longer the hike, the higher earnings you will get throughout the entire CD tenure.
To get this type of CD, you need to purchase it via a brokerage account. Banks often team up with brokerage agencies, which makes it simpler for individuals to acquire a certificate of deposit. Another benefit is that brokered CDs are negotiable letting investors sell them in a secondary market.
Also known as liquid CDs, they come with milder conditions. Depositors have the right to use some of the funds, reload the balance or withdraw cash if needed. It makes money management quite flexible, though liquid CDs usually come with a lower interest rate compared with traditional ones.
It is high time we evaluated all CD pros and cons to decide if the tool is worth investing in.
A certificate of depositing is a popular and safe option to get steady earnings. Mainly offered by banks, it offers several models with a fixed or floating interest rate and higher earnings compared with traditional saving accounts. Investors’ funds are protected by federal insurance. The main drawbacks involve lacking liquidity and penalties in case you need to withdraw funds before maturity. For some people, the inability to see their money and keep waiting can be a disaster.
This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or solicitation for any transactions in financial instruments. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks.