Buying CDs
Recently I bought a few CDs. ...No, not compact disc CDs. I do still buy those, though only a few a year nowadays. I'm talking about another seeming relic of the past, certificates of deposit CDs.
I hadn't considered buying these CDs for a long time. Years ago one financial advisor quipped, "Certificates of Deposit? They should call them Certificates of Destruction!"
He was referring to the fact that CDs pay less than the rate of inflation.
By definition pretty much any safe investment (any CDs are among the safest) pays less than the rate of inflation. They pay more than zero but still, over time the purchasing power of your money will be eroded if you put it in CDs. It'll erode slower than if you stuff your cash in mattress, or even keep it in an interest-paying savings account. Those are all well below inflation. To get ahead of inflation you have to invest in something riskier.
So why did I buy CDs if they're merely the slow road to destruction? I bought them because I finally had a purpose for them. And BTW, that purpose is not "investing". That financial advisor years ago who called them Certificates of Destruction was really talking about what a bad idea CDs are as investments. I think a lot of people regard CDs as a simple form of investing. They're not. They're actually a tool for cash management.
For years I haven't done much fancy for cash management. With inflation being low, like around 2% annually, it didn't matter a lot. I kept most of my cash in a high-interest savings account. CDs paid only slightly more, so they weren't worth the tradeoff of locking up money for periods of time. But now with inflation running high, more of a spread is opening between rates.
I was surprised when a friend pointed out to me that substantially better CD rates are available elsewhere. Brokerage CDs have noticeably higher rates. They're only available through brokerage accounts, though. Something about economies of scale, lower overhead, and passing along the savings, I suppose?
I checked for CDs available through my stock brokerage and found much better rates, especially on shorter term CDs. I snagged a 3-month CD at 3.9% and a 6-month at 4.5%.
Getting short terms at high rates is key to why I finally bought CDs. In doing cash management I'm not looking to tie up money for the long term. Long term is investing, and as I explained above, these rates don't provide enough returns for investing. Instead what I'm doing is taking some of my short-term cash pile- you know, the "keep emergency savings in cash equal to 6 months of expenses" thing you read about- and moving it to higher rate accounts. The short, 3- and 6-month terms fit nicely within the 6 month horizon of the cash savings. And these CDs can be bought in units of $1,000, so it's not like you need to be wealthy to use them. Yeah, if you're living paycheck-to-paycheck they're not for you. But if you're sitting on even a few thousand of "I might or definitely will need this in the next few months" cash it's worth doing.
I hadn't considered buying these CDs for a long time. Years ago one financial advisor quipped, "Certificates of Deposit? They should call them Certificates of Destruction!"
He was referring to the fact that CDs pay less than the rate of inflation.
By definition pretty much any safe investment (any CDs are among the safest) pays less than the rate of inflation. They pay more than zero but still, over time the purchasing power of your money will be eroded if you put it in CDs. It'll erode slower than if you stuff your cash in mattress, or even keep it in an interest-paying savings account. Those are all well below inflation. To get ahead of inflation you have to invest in something riskier.
So why did I buy CDs if they're merely the slow road to destruction? I bought them because I finally had a purpose for them. And BTW, that purpose is not "investing". That financial advisor years ago who called them Certificates of Destruction was really talking about what a bad idea CDs are as investments. I think a lot of people regard CDs as a simple form of investing. They're not. They're actually a tool for cash management.
For years I haven't done much fancy for cash management. With inflation being low, like around 2% annually, it didn't matter a lot. I kept most of my cash in a high-interest savings account. CDs paid only slightly more, so they weren't worth the tradeoff of locking up money for periods of time. But now with inflation running high, more of a spread is opening between rates.
- At Ally Bank the current rate on a high yield savings account is 2.75%
- A 6-month CD pays the same as savings, 2.75%
- 12-month CD pays 3.75%
- 18-month CD pays 4.00%
I was surprised when a friend pointed out to me that substantially better CD rates are available elsewhere. Brokerage CDs have noticeably higher rates. They're only available through brokerage accounts, though. Something about economies of scale, lower overhead, and passing along the savings, I suppose?
I checked for CDs available through my stock brokerage and found much better rates, especially on shorter term CDs. I snagged a 3-month CD at 3.9% and a 6-month at 4.5%.
Getting short terms at high rates is key to why I finally bought CDs. In doing cash management I'm not looking to tie up money for the long term. Long term is investing, and as I explained above, these rates don't provide enough returns for investing. Instead what I'm doing is taking some of my short-term cash pile- you know, the "keep emergency savings in cash equal to 6 months of expenses" thing you read about- and moving it to higher rate accounts. The short, 3- and 6-month terms fit nicely within the 6 month horizon of the cash savings. And these CDs can be bought in units of $1,000, so it's not like you need to be wealthy to use them. Yeah, if you're living paycheck-to-paycheck they're not for you. But if you're sitting on even a few thousand of "I might or definitely will need this in the next few months" cash it's worth doing.