Brokered Certificates of Deposit: Pros and Cons

Brokered Certificates of Deposit are an excellent product.  But they are more complicated than their bank-issued counterparts.

You can purchase brokered CDs through many major investment firms.  They often settle same day, although sometimes settlement can be several days in the future.  There is typically a selection of banks offering CDs for sale, and that selection will change frequently.  That is because offering banks use investment firms as conduits to raise assets.  When they feel that they need money they will appear, then disappear when the opposite is true.

Once purchased they trade like bonds.  This means that, unlike their bank-issued counterparts the value of principal can move up and down.  At maturity the full amount of principal is returned.

Brokered CDs can be purchased in callable or non-callable forms.  The callable versions, after a certain date passes, can be redeemed prior to maturity at the discretion of the issuing firm.  Non-callable CDs cannot be redeemed until maturity.  To compensate for the uncertainty callable CDs pay more in interest.

In my experience brokered CDs tend to pay more than those from traditional banks.  Right now, in my zip code, Bank of America is offering 0.10% on a 24-month CD.  Chase Bank is offering 1.25% for balances over $10,000 and 1.15% on balances between $1,000 and $9,999.  If I go on Vanguard Brokerage to view brokered certificates of deposits: the Cross River Bank of New Jersey  is offering 1.85%, Morgan Stanley Bank is offering 1.8% and Enerbank USA of Utah is offering 1.7%.  All three of those are non-callable.

One of the big advantages of brokered CDs is that you have access to rates from banks over a wide geographic area.  If banks that you are familiar with nearby do not seem to be offering much this opens up a much wider universe.

Another advantage is that brokered CDs allow you to easily spread money around among different FDIC-insured institutions.  The current FDIC insurance limit is $250,000 per uniquely-titled account.

Some people get around this by opening accounts with different titles at the same institution: An individual account in your name and a joint account with your wife would both have $250,000 worth of protection.

But what if you do not have an alternate title you want to use?  You can put $250,000 into one brokered CD under your name at one institution and $250,000 into a brokered CD at a different institution.  Both will be covered.

I have never seen a brokered CD from a bank that was not covered by FDIC.  But supposedly there are such securities out there.  Your financial firm might tell you explicitly that a CD is FDIC-insured.  But it never hurts to verify the bank’s coverage on the FDIC web site before you buy.

Because prices float you can profit on a brokered CD, if redeeming before maturity.  When redeeming a bank CD early there is an interest penalty.

Of course, if markets are down the opposite is true.  You could receive less.  I have never sold a brokered CD early.  But I have also never seen their prices vary by much.  So experience says there is not a huge amount of risk involved.

Right now I have seven brokered CDs.  The principal on six is more than originally deposited.  The principal on one of them is less.  Changes in price range anywhere from -0.04% to +2.54% of principal.  These are not huge swings.

Opinions vary about how easy it is to sell a brokered CD in the open market.  Some say they have never had a problem.  Others say it is a difficult exercise.  My personal feeling is that you may have to work at it a little but that it is probably not a big deal.  Selling a security with a robust secondary market, like a popular common stock, is as easy as pushing a button.  But in this case you might have to contact the fixed income desk and have them help you put the CD out for sale.  Then it could take a couple hours for someone to show up on the other side of the trade.

Brokered CDs are a valuable investing tool.  They are not as simple as traditional bank products.  But  it is a great way to get money working in a wide variety of FDIC-insured products.  However, due to the potential effort involved in secondary market sales, it is probably wise to only invest a portion of assets that you are reasonably sure you will not need until maturity.

 

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Articles presented here are general opinions for your own consideration. They are not specific advice for any one investor.

Brokered CDs, Call Features, FDIC Insurance, Withdrawal Penalties

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