Certificates of deposits (CD) are short to medium-term debt instruments issued generally by commercial banks and other financial institutions to investors. These deposits are issues by the banks in any denomination. Investors will lend money to the institutions for a certain amount of time in which investors cannot withdraw the amount. In exchange, the banks will pay a predetermined rate of interest to the investors called Certificate Of Deposit Rate (CD Rate). If the investor opts for a CD having longer maturity, the rate on interest that he earns will be higher. This is based on the logic that the investor will lose accessibility of his funds till maturity date and forego alternative uses of his capital.
The best feature of a certificate of deposit is lack of market risk. CDs in the U.S. are protected by the Federal Deposit Insurance Corporation (FDIC) if they are issued through a bank. This means its value won’t change based on fluctuations in the stock market. If we compare CDs with other investment instruments like Money Market Mutual Funds, the rates of return on CDs are reasonably higher.
Certificates of Deposit bear a fixed rate of interest, fixed maturity period and can be issued in any denomination. Generally, they are sold in the multiples of dollars. Early withdrawal of amount before maturity date will penalize the depositor. That penalty may be in the form of loss of interest for a few months. The investor can overcome this drawback by implementing the phenomenon called ‘CD Laddering’.
The amount of interest that an investor can get on a CD can be determined with the help of Certificate of Deposit Calculator which requires an investor to feed up some details regarding the amount of deposit, required rate of return etc. The two major factors that determine CD rates are the length of the maturity period and the current interest rate environment, which includes the rates offered by competitors. The history of CD rates reveals that the rates were between 2-16% worldwide during the last 30 years.
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