Understanding CD Rates

You may have noticed the sign for CD rates at your local bank, but were unsure of the investment type of how the CD rates are determined. If that is the case, you are not alone. While many investors take advantage of CD rates every year, there are just as many that are unsure of the mechanics behind this investment choice. Understanding the basics behind how the rates are determined will be the beginning steps of determining whether this is the best investment selection for you and your financial needs.

Factors Affecting CD Rates
There are two primary factors that affect CD rates, including the length of time that it will be until the CD matures and the current interest rate environment of the national economy.

In general, the longer that the maturity date is away from today, the higher the CD rate will be. The primary reasons for longer term CDs offering higher interest rates is that they are compensating you for the risk that you are taking. Longer term investments, especially when it comes to interest rates, means that there is a possibility that rates will change while an investor is in the CD. Also, investors are also making a commitment to the banking institute to keep the investment there for a longer period of time.

However, this is a major exception to this and it occurs when the yield curve becomes inverted. When this event happens, short term CD rates become higher than longer term CD rates. When this happens, it is generally a precursor to a recession and an indication that investors believe that the longer term economy will be poor.

Another factor that affects CD rates is the competition between banks. There are banks on what seems like every corner, the same as in gasoline stations. Banks must compete with each other for CD business by offering investors the most competitive CD rates. So, keep this in mind when you are searching for the most competitive CD rates available at the time you are looking to make your investment.

Other Misc Factors
Another common factor that affects CD rates is bonus programs that may be offered by financial institutions or banking institutions. In many cases, these financial institutions are looking to retain current customers as well as to upsell current customers into new products, so they offer a bonus rate for adding to a customer’s existing financial portfolio. These bonuses can mean tremendous points added onto the CD rates, ultimately helping the investor to earn additional capital growth and/or current income over the life of the CD.

In addition to these bonuses, you may find that credit unions offer higher CD rates than traditional banks. This is often due to the difference is their profitability models, giving credit unions a slight financial edge.

So, searching for the best CD rate involves more than just choosing off of a list; it is about making the most informed decision possible about both short term and long term CD rates.

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