Certificates of deposit (or CDs) are basically loans that you are making to the bank. At the end of the term (the maturity date) the bank will pay you back the loan plus whatever interest has accumulated during the length of the term. It is up to the investor to choose the length of the CD, which can range anywhere from thirty days to thirty years. The most common CD terms are 2 Year CDs, 3 Year CDs, and 5 Year CDs, and generally speaking the longer the term the more interest you can earn on the certificate of deposit.
Safe and Secure Investment
CDs are considered to be a very secure investment strategy. They may not earn you the high return that mutual funds and stocks can, but they are protected from a fluctuating market. Whereas your rate of return in stocks can rise or plummet drastically depending on the market, you will always know what your return is going to be in a fixed-rate CD. The Federal Deposit Insurance Corp protects your principal with up to $250,000 in insurance coverage, plus there’s the added benefit of the extra earning you will make from the interest.
Where to Look
There are three places you can start your search for certificates of deposit: the Internet, local banks, and credit unions. The Internet provides the easiest way to review and compare a wide range of CD rates and options. But you might want to try your local bank first, especially the institution that you currently bank with, because they might be able to get you a good deal for being a member. Credit unions, unlike banks, are not trying to return any kind of profit to stockholders, so their initial rates may be much better.
What to Look For
There are so many different kinds of CDs to choose from, including Jumbo CDs, IRA CDs, Liquid CDs, Variable-Rate CDs, etc. Regardless of which option you choose, the main thing you want to look at is the initial rate of interest and whether the interest is fixed or flexible. Once you have found some decent rates you might want to look a little closer into the institution you will be investing with. Here are some things to consider:
- Size – Banks and credit unions range from small local start ups to mega corporate branches. If they have been around for more than ten years and still only have around $20 million in assets than they probably aren’t trying to contend with the big dogs. It is up to the individual to decide whether they want to invest with a small or a large organization. They each have their pros and cons so be sure to look into those. For example, big banks might be more convenient but they will probably have much worse customer service.
- Capital : asset ratio – The capital (or equity) to asset ratio is very important. The ratio shows how much liquidity the bank has to meet financial needs. It also gives an indication of how reliable and secure the bank will remain in coming years. Anything between 7%-8% and above is considered to be a good ratio.
- Profitability – You would never want to invest in a bank that isn’t making a decent profit, and especially not in one that is incurring losses. The only exception is with a new bank, which may carry a loss for up to three years as it is getting established. Be very cautious about banking with new banks as they usually have yet to build up a trusted brand name. If the bank has been around for a while than you can look through their history to see how they have been faring. What is their profitability like from year to year? What are their loan losses like, and are the decreasing or increasing?
Looking into these different factors will give you a good idea of what the bank is like and whether or not it is a safe and profitable location to invest your funds in a CD. The Better Business Bureau, other rating websites, and customer reviews can all give you a better clue to the reliability of the institutions you are looking into. Remember to compare a lot of different places before choosing one to insure that you are picking the very best option.