Personal finance

High-yield CD explained

What is a high-yield CD?

A high-yield CD is a certificate of deposit that has a higher interest rate than traditional CDs. They are also referred to as jumbo CDs, but that term isn’t technically correct since all CDs issued by FDIC-insured banks in the United States are guaranteed to be fully insured to at least $250,000 per individual depositor regardless of how much they have deposited.

Understanding High-Yield CD Rates

When looking for a place to put your money, you’ll want to find the highest rates available—the higher the better. However, finding those rates can be challenging; even many online banks don’t provide very competitive rates on their certificates of deposit (CDs).

There are, however, a few banks that offer extremely competitive rates on their CDs. At the moment (spring 2012) some of the highest CD rates are found at Ally Bank and EverBank—two online-only institutions that have been offering higher interest rates than the majority of brick-and-mortar financial institutions for a number of years now.

Such high yields on CDs can be attractive to investors who need to earn more money today while preserving their capital over the long term. If you don’t need access to your investment right away, certificates of deposit are one way you can invest in securities that will produce interest income without exposing your principal balance to risk.

Common features of a high-yield CD account

A high-yield CD is a certificate of deposit or CD account that promises higher interest rates than traditional CDs, sometimes through the use of an introductory period. This type of account may also offer unique features, such as no penalties for withdrawing early and sometimes even some partial liquidity in the form of being able to withdraw funds before the CD matures.

A typical high-yield CD will pay out an advertised APY and then reduce or eliminate this rate after a certain amount of time has passed, often lasting anywhere from three months to five years. The exact terms vary greatly based on the bank offering it, but there are typically several “bump-ups” during this period that allow customers access to slightly higher rates if interest rates.

How does a high-yield CD compare to regular CD accounts?

Among the most prominent differences between a standard CD account and a high-yield CD (CD-HP) [or jumbo or advance] account is the length of time for which your money is tied up. A typical CD, also known as an ordinary certificate of deposit, requires you to commit your funds for a specific amount of time: either three months, six months or one year. In exchange, you receive interest at rates that are generally higher than those offered by traditional savings accounts but lower than those earned on longer-term CDs.

As a result, customers can’t access their deposited funds during this duration period – normally referred to as an “early withdrawal penalty.” On the other hand, these terms allow banks and credit unions to provide higher rates of return and also to lend money on a long-term basis.

The longer the bank or credit union has access to your money, the more interest it can earn on its investments. This is why you will generally find that banks and credit unions offer higher rates of interest on CDs with longer maturities [such as 18 months or two years].

CD-HP accounts are basically long-term savings products offered by both banks and credit unions. These types of accounts do not have early withdrawal penalties attached to them. As a result, you’re free to access your funds before the maturity date without any penalty charges.

However, CD-HP products tend to offer lower rates of return than ordinary CDs because they also carry slightly riskier investment options [with higher potential returns if market conditions are favorable] . So, in addition to having the ability to withdraw your money at any time with no penalty, you also have the option of withdrawing your money before the maturity date without losing a significant amount of interest [which is usually equivalent to 3 months’ worth of interest].

The bottom line: high-yield CDs are considered to be relatively safe investments. They are just as reliable and secure as their shorter-term counterparts and will generate higher interest earnings over time.

However, you may benefit from using a CD laddering strategy to maximize your interest earnings.

By Moneypilot

Moneypilot is free to use and completely reader-powered. If you click on links on our website, we may earn an affiliate commission. This may affect which brands we include in articles and comparisons, but it does not affect our editorial opinion.

Leave a Reply

Your email address will not be published. Required fields are marked *