Q: My broker said that he can get bank certificates of deposit for me at no cost. How are these CDs different from the CDs I get at my bank?
Which are better?
A: Most broker-distributed CDs are issued by banks or savings and loans and insured by the FDIC. The issuers pay the brokers' fee. Of course, anyone can get CDs directly from a bank at no cost. However, there are at least three major differences:
* Most broker-distributed CDs cannot be redeemed at the bank before they mature.
* Many brokerage firms will buy back the CDs they distribute, but the price you get will depend on prevailing interest rates. If interest rates go up, and you decide to sell before maturity, the price will be lower than what you paid. If interest rates go down, the price offered may be higher than what you paid.
* Bank CDs often offer various interest payment options and reinvestment at the original rate, while most brokerage-issued CDs pay out the interest on a semiannual basis. You can only "reinvest" that interest in a money-market account or in additional CDs when you have accumulated the minimum investment for brokered CDs.
Broker CDs often offer higher rates than those available at the institutions themselves.
If your money is already at a brokerage firm, then it is convenient to get your CDs there. But I would recommend staggering maturities -- that is buying some one-year, two-, three-, four-, five- and even seven-year CDs. That way, part of your money is coming due every year. So, if interest rates go up, you'll be able to reinvest at a higher rate, and if interest rates go down, you'll still have a number of longer-term high-rate CDs in place.
The wild fluctuations in interest rates over the past year have stimulated some banks to develop some innovative new CDs.
So, although interest rates are often higher at brokerage firms, banks and credit unions may offer CDs that are better suited to your needs.