Saving is an essential part of financial health.
However, finding simple ways to set aside money while also watching it grow in value can become complicated in today's sophisticated markets.
Although there are many financial products out there that promise sizable returns and low risk, traditional options like certificate of deposits (CDs) are tried-and-true ways that you can earn a reliable return without becoming exposed to unpredictable risk.
So, what exactly is a certificate of deposit, and how can this product help you grow your savings? Continue reading to dive deeper into what a certificate of deposits is and how compound interest that comes with this product can work in your favor.
Understanding a Certificate of Deposit
A certificate of deposit is a financial product that many banks and credit unions offer members. It is often compared to opening a standard bank account.
When you open a CD, you agree with the financial institution that you will make a lump-sum deposit and not make any withdrawals or transfers from it within a specific agreed-upon time frame. In exchange, you will receive an interest rate premium for leaving the money untouched.
The difference between certificate of deposits and savings accounts are the terms you agree to. So, when opening a CD, there are three main factors that you lock in to:
- Certificate of deposit interest rates: CDs come at locked-in rates, which means you will earn a reliable return on your investment, and the financial institution cannot change the interest rate in the middle of the term.
- Term: When opening a CD, you agree to leave the funds untouched for a certain time. Durations include 3, 6, 9, 12, 15, 18, 24, 36, 48, and 60-month periods. Once you reach the maturity date at the end of the term, you can access your funds penalty-free.
- Principal: This is the amount you agree to deposit with your financial institution to open a CD. Usually, each institution has set a limit for the minimum deposit amount required to open a CD.
Typically, the longer the duration, the more attractive the certificate of deposit interest rate will be. Additionally, certificate of deposits accrue interest either semi-annually or at maturity and benefit from compound interest.
The Benefits of Having a CD
There are several benefits to having a certificate of deposit, so let’s take a look at some of the main perks:
- Often earn higher interest than savings or money market accounts
- A safer and low-risk alternative to equities and bonds
- Federally insured (FDIC insured) and guaranteed rate of return
- Widely available
For anyone who is saving up to make a big purchase or wants to earn a return on the money they’ve set aside but don’t need immediate access to, CDs can be a great way to grow your money.
What to Consider About Certificate of Deposit Rates
If you’ve decided that CDs are an attractive opportunity to grow your funds quickly, there are some points to keep in mind. To begin, although banks and credit unions commonly offer CD products, each institution’s rates can vary greatly. So, you’ll want to shop around for the most competitive certificate of deposit rates if you’ve decided to take this route.In addition, make sure to compare the certificate of deposit rates with the rates your savings account receives to ensure it is attractive enough to lock up your funds for the required duration.
How are Certificate of Deposit Interest Rates Determined?
Given that each financial institution offers different rates for certificate of deposits, you may wonder how each bank or credit union sets these rates. You may also wonder why there may be such a wide range between them. To answer this, we need to consider the federal funds rate (or “fed funds” rate). The fed funds rate is set by the Federal Reserve at which banks can borrow money. Typically, when the federal funds rate decreases, banks will lower their rates on interest-bearing accounts like certificate of deposits. On the other hand, a higher federal funds rate means banks have a greater incentive to offer higher interest rates to customers so they will make deposits. If you’re wondering when the best time is to open up a CD, you can pay attention to the Fed’s rate-setting strategy. If you expect rates to go up, you may cheat by locking into a lower rate. Conversely, opening a CD ahead of rate cuts can be beneficial.
Final Thoughts on Certificate of Deposits
For an excellent opportunity to grow your funds, consider what you can earn from certificate of deposit interest rates. Most financial institutions will offer certificate of deposits, so you will want to pay attention to the terms that your bank or credit union provides with CDs, including the interest rate and early withdrawal penalty. With these factors in mind, you can find an attractive product that fits your savings goals and can help you grow your wealth–without exposing yourself to the risk and volatility of the equity and bond markets.
About Cleveland State Bank
Cleveland State Bank is a Wisconsin community bank that nurtures the financial well-being of its clients and community while providing innovative bank solutions. In-person or online, bank on a better future with us by visiting our website today.
Disclaimer: All information provided within this blog is for educational purposes only and may not be used as legal, business, or official financial advice.