A high yielding CD has attracted a lot of people trying to grow their wealth while assuming as much risk as possible can be avoided. High yield CDs are very popular among people when it comes to saving and investing. For very high traditional saving, interest would be gained but this isn’t; these high-yielding CDs produce an attractive alternative as fixed interest rates coupled with backed safety by the government.
It is in this blog posting, we are going to have a discussion regarding the positives and negatives of these highly yielding CDs on how best they can fit in within your larger financial planning horizon.
What Are High-Yielding CDs?
A high-yielding CD is essentially a time deposit from a bank or credit union but carries a higher interest rate than a regular CD. The interest rates are usually higher than what a savings account or regular CD offers. A CD works by locking in your money for a fixed term—anywhere from several months to several years. In return for this commitment, the bank or credit union offers a guaranteed interest rate. The chief advantage is that high-yielding CDs are much safer than the riskier investments such as stocks, which are also insured by the FDIC (Federal Deposit Insurance Corporation) up to the standard limits.
The most significant interest about high-yielding CDs is that their interest rate is greater than average. Usually, that extra yield often comes with a timeframe attached. You may lock the funds to a CD for an extended period and find out you receive a much more impressive interest rate because of that length of time. Some will have tiered interest rates—that is growing interest by growing deposits—and others that might be as regular as always.
Why Invest in High-Yielding CDs?
Predictable Returns
High-yielding CDs have their most alluring feature—the predictable return. You know, with the help of a CD, exactly how much money your investment will grow with time. The returns in the case of stocks or mutual funds cannot be predicted because their returns may be wide apart. In this regard, a high-yielding CD provides the investor with fixed returns and is perfect for risk-averse investors. If you value certainty and stability, predictability could be really alluring for you.
FDIC Insurance
Another advantage of high-yielding CDs is that they carry FDIC insurance. The bottom line is that when the bank fails, it means that a depositor will be protected up to $250,000 for every institution and for each depositor. So high-yielding CDs are perhaps some of the safest investment products available in the globe today. With financial markets becoming unstable over the last couple of decades, not to say centuries, security with FDIC insurance must be highlighted.
Low-Risk Investment
High-yielding CDs are quite a low-risk investment compared to other products such as stocks or bonds. They have higher yields than a regular savings account or regular CD but do not include the market volatility associated with investments that are riskier. This makes them an ideal product for conservative investors who prefer a stable, predictable return and avoid the ups and downs associated with more speculative markets.
Higher Interest Rates
The principal attraction of a high-paying CD is its interest rate. As such, most of them pay significantly better than those on a run-of-the-mill savings account or conventional CD. This quickens your savings especially if you are working toward some definite goal or target such as retirement or an enormous expense like some emergency fund. A higher-paying rate would mean earning more interest income from relatively lower capital.
CD Laddering Strategy
One strategy where investors use to exploit the benefit of high-yielding CDs is through CD laddering. CD laddering means that you have a set of multiple CDs with varied maturity dates. For example, you could invest in a one-year CD, two-year CD, and a three-year CD. For each maturing CD, you can invest the earnings in a new high-yielding CD. This way, you can balance the long-term rates with the convenience of accessing your funds periodically.
How Do High-Yielding CDs Compare to Other Investments?
To really understand the benefit of high-yielding CDs, you have to compare it with other investment options.
Compared to Savings Accounts
Savings accounts are convenient but have relatively low interest. This is usually below 1%. Even the best ones normally do not reach past 2%, particularly within a low-interest-rate environment. CDs can easily provide yields at above 3%, although that depends on the length term of the CD. Liquid funds, though more fluid with savings accounts, allow high-yielding CDs for higher returns on your available and untouched funds.
Stock and Bond Investments
Stock and bond investments are riskier compared to a high-yielding CD. Though promising greater returns, they open individuals to a much more significant chance of losing some money. It is indeed somewhat volatile at times on the stock market, causing such major ups and downs in values alarm even the most conservative investors. More risky than bonds, in general, though still risky enough for conservative investors’ comfort levels. High-yielding CDs offer a safe, fixed return and thus are a more stable choice for those who want to minimize risk.
Compared to Money Market Accounts
Money market accounts (MMAs) is another low-risk investment product that is often compared with CDs. While MMAs tend to have higher yields than savings accounts, their yields tend to be lower than the best-yielding CDs. The money market accounts are also more liquid than when one accesses the money from a CD, because drawing money out of a CD before its maturity incurs penalties. For those investors who can hold onto their cash and are willing to forego a slightly higher return, a high-yielding CD is usually a better bet.
Risks and Limitations of High Yielding CDs
Though the advantages of high-yielding CDs are quite evident, they are not without disadvantages.
Early Withdrawal Penalty
It imposes you a penalty upon early withdrawal mainly when applying with high-yielding CDs where you’re locked into committing your funds for a predetermined duration. There’s usually always the prospect that you would require access before such maturity. This can normally vary between some months’ worth of interest, up to large parts of your deposit-term and bank dependent. So there is a sense in making an investment only of the money that does not seem likely to be used in the near future.
Limited Liquidity
Unlike savings accounts or money market accounts, that allow you to withdraw funds when you need them, you cannot withdraw funds from your high-yielding CD easily until the CD matures. This is okay if you were looking for a long-term investment, but may be less suitable if you project needing liquidity for an unexpected emergency or short-term financial purpose.
Inflation Risk
Although the CDs guarantee returns, they run risks for inflation. In case, for whatever reason, the inflation increases a lot during your time in your CD, then your real terms return diminishes. Now let’s give you an example; suppose you suffer a 3% inflation, and the rate on your CD is 2%. Even if you’re getting interest technically from your earning, your investment gradually loses its buying power.
Do You Invest in High Yielding CDs?
In a nutshell, high-yielding CDs can be very ideal for conservative investors who invest to grow their savings with the desire to achieve stable low-risk returns. The investment presents a predictable return and carries a higher interest rate than its corresponding savings account while protecting the same with FDIC insurance. However, the disadvantages include early withdrawal penalties and inflation that may decrease the value of your return. If you want to invest in something secure and predictable enough to grow your savings, and you have the money available to put it away in a time-lock for that period, then a high-yielding CD might be the best alternative for you.
But first, before you make this decision, you would have to weigh your financial goals against your liquidity needs and your risk profile as a way of determining if a high-yielding CD makes it into your overall strategy.
