Certificates of Deposit (CD) are financial products offered by financial institutions to individuals who want a fixed stream of income from their capital. The companies typically offer a CD with two pieces of information.
- Yield (or Rate): This percentage of the investment is doled out to you at the end of the year. This keeps changing every few months. (It is fixed for you when you start the CD).
- Time to Maturity: The length of time you would have keep your dollars with them.
Before you jump in and buy a CD you need to check out a few macro economic indicators to see if it is right for you.
- Inflation: You need to know what the current rate of inflation is. As of this writing the inflation stands anywhere between 3.5% to 4%. Any yields you get beyond this only needs to be considered. Meaning, if somebody is offering a yield of 5% and inflation stands at 3%, you are likely getting 2% overall.
- The direction of the Federal fund rates. This is the rate you hear in the news all the time. The target rate stands at around 2% as of this writing. CD rates are correlated with this rate. Generally the fed cuts rates when economic activity slows. If you think the economy is slowing, the CD yields will go lower in the future. So it may make sense to lock in whatever deal you are being offered now.
- Always look to see if your CD is insured by the FDIC. This is federal insurance up to $100,000 on your deposit. If the bank breaks you will get back up to $100,000. The fed has never defaulted its backing of this insurance since 1933, when it was created.
- Check out other low risk investment streams too. Investments in the following are also comparable if not exactly the same.
- Utility Stocks yielding greater than CDs. These are fairly safe. Examples: Pacific Gas & Electric
- Municipal Bonds: You will likely get tax savings from state taxes here.
- Stocks of solid branded companies. Examples: KO,PEP,JNJ etc
- Check out all the deals out there online. I have seen big banks offer slightly lower rates than mid sized ones and banks trying to get a foothold in this area.
