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Are CD’s Worth The Investment?

Monday, August 9th, 2010

With today’s fledgling economy and jittery stock market, many conservative investors are looking for a safe place to invest their money. Earning a dollar is much more difficult today than it was just a few years ago. Therefore, saving a buck and earning a buck have become much more important. Certificates of Deposit (CDs) may be the solution for the conservative investor. Most people have heard the term CD by visiting their local bank, or through various forms of advertisement such as radio and television. However, what they don’t know is the basic definition of a CD.

A CD is formally defined as any debt instrument issued by a bank that usually pays interest. The components of a CD including the term over which interest is accumulated, the rate of interest, the annual percentage yield (APY) and the minimum deposit required.

Though CDs are most often purchased by the average person at a physical bank location, there are a few other ways to purchase them. Brokerage CDs have become increasingly popular over the past decade or so. Numerous online banking institutions offering CDs have popped up over recent years.

With the collapse of several banking institutions, many investors wonder, “Are CDs a good investment?” The answer lies mainly within the rates that are offered. Recently, a one-year CD could be bought through a brokerage firm at a rate of approximately 2%. Though making 2% is better than losing money in the stock market, money at this rate is still being lost. Losing money in short-term CD is closely related to the inflation rate. In February of this year, the inflation rate was 3.01%. This means that investing in a one year CD at 2% results in a net loss of 1.01%.

Like other investments, CDs are sensitive to the overall economic environment. However, for a CD to be truly a worthwhile investment, it must realize a profit above and beyond the rate of inflation. Longer-term CDs may achieve this end, but they may incur something known as interest rate risk. This means that over the term of CD, interest rates rose significantly, but the investor is relegated to the rate defined at the initial purchase. The initial purchase rate of the CD may become significantly lower than the current rate of interest over time, but this is the risk of a longer term CD when lower interest rates exist.

The collapse of a few of our country’s largest banking institutions elicited an environment of fear reminiscent of the days of the Great Depression. This fact led to questions regarding the safety of CDs as well as general savings accounts at banks. However, the FDIC stepped in at the appropriate time and assured the safety of depositors monies.

CDs can be a profitable investment, but good research and rate comparison are necessary. It is important that CDs are federally insured, because there are those that are not. Investors must be cautious of overseas firms offering CDs at higher than normal interest rates. The main idea to remember about CDs is that in order to be profitable, they must exceed the rate of inflation and the investor must understand interest rate risk.

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8 Steps to Controlling Your Debt

Monday, February 15th, 2010

Recent reports that were compiled and published by the United States Federal Reserve indicate that consumer debt has increased at exponential rates in the past decade. There is roughly $3 trillion in current consumer debt whether it is non-revolving or revolving in nature. At the present time, the US economy is in a state of flux and what most financial experts would say reeks of instability with many fingers pointing to the current political administration in Washington, D.C.

Despite such a gloomy outlook and the past 18-month economic track record, this “cloud” does have a silver lining. Where your personal debt is concerned, you can get this under control and maintain things wisely so that you can weather economic hardships. If you are truly in over your head financially, we have some suggestions for how you can get a handle on this and survive your struggles.

8 steps to getting debt under control

There are 8 steps that you can take in order to get your debt under control and we have listed them here:

1. Find out what the real cost of each debt is – avoid the temptation created by the words “low monthly payments.” This is nothing short of brainwashing and has been used continuously in marketing campaigns to dupe consumers into believing that “easy monthly payments” means spending less than what the total cost actually is once you have fulfilled the agreement and paid off the debt.

2. Get off your behind and create a monthly budget – we cannot stress this enough. Additionally, you will want to establish and develop some type of savings plan, especially where retirement is concerned.

3. Dump those high interest credit card accounts – better yet, figure out how to survive financially with a minimal amount of “plastic” money.

4. Always remit more than the minimum payment due on your charge accounts and other credit cards – it will take you decades to pay off a high balance since most of your payment will be eaten up by the interest on the account.

5. Don’t apply for a consolidation loan to generate a better monthly cash flow – this makes no sense as it only creates more long-term debt for you. Consumers have the tendency to do this in order to improve their quality of life when in reality they are just driving themselves further into debt.

6. Don’t be a sucker for credit consolidation advertisements – most of these companies don’t reduce your debt like they advertise, they just restructure it.

7. Never borrow money against the equity in your home – why would you steal money from your retirement nest egg or deplete funds that could go towards a real financial emergency?

8. Never be too proud to seek out and pay for professional help – let’s face it, most of us do not possess a CPA’s or financial planner’s mentality where balancing and maintaining a budget is concerned. Why not rely on the services of an expert? It just makes sense.

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Bonds vs Money Market

Tuesday, December 22nd, 2009

An overview of bonds and money market securities

What you want to consider first and foremost is that bonds and money market securities are both financial vehicles that are labeled as “debt instruments.” However, they are different types of investments. They are basically different based on the following:

  • issuance of new securities
  • length of time it takes each of them to reach maturity
  • the interest rates which are paid
  • the way in which the interest is earned on each
  • their relationship to changes in interest rates

Another fact to consider is that bonds will mature in 5 to 30 years, depending on the type of bonds they are, whereas money market securities typically mature over a period of 9 months or less.

How interest is earned and paid

Bonds are usually issued with a clearly stated interest rate which and interest is typically paid on a semi-annual basis. On the other hand, money market securities will normally be issued at a discounted rate towards their final maturity value. The key difference is what the investor is going to earn for holding to these until they actually mature. Another difference is that lengthier maturity periods tend to discourage investors because they are looking for a much greater ROI when investing for the long haul.

Ironically, the interest rates paid on most bonds is typically higher than those of money market securities. This is primarily due to the higher levels of inflation risk and the uncertainty that it breeds with money market securities. This aspect is in reference to what is called a “yield curve” and there have lengthy yield curve time periods that were inverted throughout history. This refers to periods of time where there are only inflation risks which are short term in nature which had been perceived to be higher and where the long-term risks were considered to be relatively low or stable.

The relationship to changes in the interest rate

For the most part, there is what is commonly called an inverse relationship between money market securities and:

  • being discounted when they are issued to the rate that investors should receive when they mature
  • changes in interest rates
  • maturity time frames that are considered to be short-term
  • there is a lower volatility in market value compared to changes in the interest rate

    • A bond’s market value will normally display an inverse relationship to longer-term-of- maturity bonds and are typically more volatile than bonds that have a shorter maturity term. The major advantages that you have when investing in money market securities versus bonds is the fact that your money is readily available should you want to withdraw those funds.

    The key disadvantage with money market securities is that they have lower rates of interest so the ROI is considerably smaller than with bonds. Conversely, the main disadvantage with bonds is that you will need to wait a full year before you can withdraw funds. Additionally, you will most likely be penalized three months of interest for withdrawing funds early with bonds during the first 1 to 5 years.

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