High-Yield CDs: Not as Great as One Might Think

High-Yield CDs: An Introduction

Imagine you’re an elderly woman and walk into a bank. A teller notices that you have quite a bit of money in your savings account and notes that you might benefit from a CD, which carries a higher interest rate than the typical savings account. Since your goal is to keep all your money safe and grow your nest egg so that you can comfortably live out the rest of your retirement, you go to the back of the bank and enter another office where a man extolls the virtues of a “high-yield CD.” You agree to move your deposits to this CD. Little do you know that this man doesn’t work for the bank; he works for a brokerage firm — and you have just purchased an investment product, one in which you could potentially lose your entire principal.

FINRA warns investors and consumers to beware of red flags that may signal a high-yield CD scam. Beware of unsolicited emails or calls, higher than average interest rates, a “limited time only” offer, or a requirement to invest a significant amount of money (i.e. $100,000). High-yield CDs are actually complex investment products masquerading as low-risk CDs.

Certificates of deposit are a common way to ensure that your savings work for you — but high-yield CDs can be a risky investment. When you deposit your money into a traditional, basic CD at a credit union or bank, it typically comes with a higher interest rate than a regular savings or checking account. This can be really appealing. Some promotional certificate of deposit (CD) rates may be a legitimate way for credit unions and banks to recruit new customers, but others are “bait and switch” tactics designed to get you to invest in a different investment product, according to FINRA, the Financial Industry Regulatory Authority.

Long Maturity

When you purchase a brokered CD, you may be tying up your money for 20 years — or more! Why? Brokered CDs tend to have longer maturity dates than traditional CDs. During this time, you will not have access to the cash value of your investment. Instead, you must wait to withdraw your money until the maturity date has arrived. If you decide to withdraw your money before the maturity date, you will likely pay a hefty penalty — and sometimes it is not at all possible to withdraw your money early. Thus, if you are considering a brokered CD, ask yourself if you are willing to give up easy access to your money in pursuit of a higher interest rate.

Call Risk

While traditional CDs have fixed interest rates, brokered CDs tend to have variable interest rates that are often tied to a market index, such as the S&P 500. If interest rates drop, the issuing party may “call” the CD. What does this mean? The issuing body can terminate the CD. What does this mean for you, the investor? Instead of being able to ‘ride out” any fluctuations in the market, you may find yourself forced to find a new place to invest your money. You may find yourself in a tough spot, as you may wish to reinvest your funds into a new high-yield CD — but may find that the new, lower interest rates are not very favorable.

Limited Secondary Market

Due to the penalties that customers incur for withdrawing their funds early, broker-dealers may maintain a limited secondary market where customers can sell their CDs back to the broker. The broker will, in turn, resell the brokered CDs to other customers. It should be noted, however, that this process is not always favorable towards the customer. If you want to sell a low-interest brokered CD at a time when interest rates are high, you may have a difficult time doing so, and may even lose some of your principal. Is that a risk you are willing to take?

Questions to Ask

Before investing in a brokered CD (also known as a high-yield CD), ask yourself the following questions:

● Is the interest rate fixed or could it go down?

● How long must I keep my money in the account? In other words, what is the CD’s maturity date? Am I willing to tie up my money for this long?

● If I have to withdraw my money before the term is up, will I pay a penalty? If so, how much?

● What would I do if my CD were suddenly “called” before its maturity date? How would this event affect my investment goals?

● Am I willing to take the risk that I may have a difficult time selling my CD on a limited secondary market?

● Does a high-yield CD make sense for me given my investment objectives?

Next Steps: Contact a Securities Attorney

One does not normally think of CDs as investments, but high-yield CDs are essentially investment products, so only invest what you can afford to lose. If you believe that you have been a victim of a high-yield CD scam, don’t hesitate to contact a securities attorney. Call (877) 238–4175 or email info@fkesq.com for your free case consultation with the securities attorneys of Fitapelli Kurta.