News Column


June 22, 2014

By Winthrop Quigley, Albuquerque Journal, N.M.

June 22--Certificates of deposit pay practically nothing. Tying up your money in a two-year CD might earn you around 1 percent per year at best. A one-year CD pays around 0.2 percent.

Meanwhile, the rate of inflation is running at around 2 percent, which means that in real terms you lose money every minute that you own a certificate of deposit.

Yet, as the Journal learned when it stopped publishing CD rates in Monday's Business Outlook a few weeks ago, CDs are still an essential part of some investors' portfolios. We received dozens of phone calls and emails from investors saying their cash management strategies depend on CDs. We resumed publishing the rates last Monday.

Among the investors we heard from was Billie Waters, an Albuquerque retiree.

The appeal of CDs, she said, is their safety and their simplicity.

"For my age, I don't want to go into something risky," she said.

Waters was invested in the stock market until about 10 years ago, but market declines moved her away from equities.

"I don't pay attention," she said. "I didn't notice when the market started going down so fast. My broker didn't even so much as ring my telephone."

On the other hand, she can track CDs herself.

"I love that every single Monday, I would go to Business Outlook and check and see if anything has moved. Even a tiny change (in interest rates) makes a difference."

CD basics

Certificates of deposit are offered by banks, credit unions and thrift institutions. They typically offer a higher rate of interest than a regular savings account. CDs are insured by the Federal Deposit Insurance Corp. up to $250,000.

Financial institutions require that you purchase the CD for a fixed period of time, perhaps a few months, perhaps several years. The principal is returned at the end of that term.

The periodic interest payments you earn are taxable unless the CD is held in an individual retirement account or other tax-advantaged account. Most institutions charge a penalty if you withdraw the funds before the CD term has expired.

"I would not be recommending CDs if there was a really viable option," Waters said. "I don't know of a good place to put money these days that will make any sort of appreciable interest."

Low interest rates have made all savings instruments less lucrative. Passbook savings accounts pay 0.03 percent. Even a 10-year Treasury pays only a little better than 2.5 percent.

Albuquerque-based financial planner Stephen Maydeski advises clients to park three to six months of regular living expenses in some sort of liquid asset in case of job loss or other financial disasters.

"Retirees need at least a year of liquid funds," he said.

The problem is where to park the money?

"It's a tough one, it really is," he said.

"With new clients coming in, I rarely see a CD in their portfolio, although I do see clients coming in with tons of cash. They are still shell-shocked from the Great Recession."

Maydeski advises that if you must buy a CD, keep the term short.

"If you're locking up money for 1.5 percent for five years and rates take off, you look a little silly," he said.

Shop around

It is possible to shop around, too. Maydeski has found Internet banks that pay 2 percent on five-year CDs, for example. Money-market accounts might pay better than short-term CDs, but keep in mind that they are not insured and that the rate you earn is not fixed, he said.

As a share of commercial bank deposits, CDs barely register these days. According to the Federal Reserve Bank of St. Louis, commercial banks held $388.3 billion in what the Fed calls small-time deposits, which are deposits valued at less than $250,000 and are locked in for a set period of time. That number is only slightly higher than it was in 1984, when commercial banks held $368.9 billion in small- time deposits.

Savings deposits, on the other hand, total $6.25 trillion today, compared with $377.5 billion 30 years ago.

Small-time deposits surged to more than $1 trillion in the months before and after the financial panic of 2008, when investors were running to the safety of FDIC-insured instruments with their cash.

"People are keeping a lot of money in checking accounts, whether they are interest-bearing or not, because rates are so low," said U.S. Bank Community Relations Executive Pat Dee.

Some investors find that tying funds up in a time deposit just doesn't pay enough to sacrifice the convenience and liquidity of a checking account, he said.

Even so, many U.S. Bank customers favor CDs, including business customers, Dee said.

"In general, people are investing in CDs in large part because they like the FDIC insurance," he said. "Though the rate is fairly low, with the insurance provided it gives them a guaranteed rate of return. If they do need the cash, they can get at it by borrowing against the CD, or they can take an early withdrawal penalty to cash it in. Even though the money is tied up for a stated maturity, there is still some flexibility built into it."

There is no typical CD customer, Dee said.

"They run the gamut from very young to very old. As people get older, especially if they are in their retirement years, they more proactively manage their CD balances" by shopping for rates and moving funds among institutions in search of the best return, he said.

Dee said younger investors and commercial customers tend to roll expiring CDs over at the same term in the same credit union, bank or thrift.

Even Dee's most sophisticated commercial customers still use CDs despite the low return.

"A lot of business entities have been standing on the sidelines waiting for the economy to break loose," he said. "They are sitting with large amounts of cash. Some of it is in money market accounts. Some is in CDs, if they know they can park it there for a while and get a better rate."


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Source: Albuquerque Journal (NM)

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