NEW YORK In the textbooks Zach Abrams studied to become a certified financial planner 10 years ago, there was talk of a curious strategy called ‘laddering CDs’. Yet since the 31-year-old has been a practicing financial adviser, it has not come up much.
Parking cash in certificates of deposit with different maturities – a low-risk investment which provides income on capital over a specific period of time – has declined in popularity as interest rates have tanked.
“We have one client that we still use it for – that’s the only thing he’s willing to invest in,” said Abrams, of Capital Advisors in Shaker Heights, Ohio.
Back in 1984, the interest rate on a one-year CD reached about 12 percent and was still at 3 percent in 2009 before dropping to nearly zero since then, according to Bankrate data. Today’s top CD rates are just over 1 percent, mostly at online-only banks and credit unions.
With the U.S. Federal Reserve nudging rates up by one-quarter of a percentage point on Wednesday, CDs could be more attractive to yield-hungry investors – eventually.
Here is what the experts think would have to happen first.
REACH A THRESHOLD
CDs are not complicated investments. “You lock your money away for a certain amount of time, and you get a certain percentage” in yield, said Chris Chen, an adviser at Insight Financial Strategists in Waltham, Massachusetts.
To lure investors to a CD, the ideal interest rate is around 3 percent, said Austin Frye, principal owner of Frye Financial Center, in Miami, Florida. We are still a long way from that, he noted, and there are a lot of contingencies.
The biggest wrinkle is inflation. As interest rates gradually rise, so does inflation, which erodes the value of a fixed-income investment, said Greg McBride, chief financial analyst at Bankrate.
“If you start to get some difference between what you’re earning and what is being chewed up by inflation, then CDs will be attractive again,” he said.
RE-EDUCATE INVESTORS
At peak usage in 2009, U.S. credit union consumers, who make up about 10 percent of the CD marketplace, had $239 billion in CDs, but that has since dropped 18 percent to $195 million, according to Mike Schenk, senior economist at the Credit Union National Association.
What is surprising to Schenk is that wealthier investors tend to hold CDs, despite the minimal returns, especially when combined with fees. “You’re basically paying the bank to hold your money,” he said.
Roughly 30 percent of investors who have over $100,000 in investable assets held CDs in 2014, according to the Spectrem Group, a Chicago-based research firm. For those with less than $1 million, that slipped to just 25 percent in 2015, with an average of $40,000 invested.
If we do get to the point where CDs are viable investments again, there may be a whole generation of younger investors who have no idea what they are, though.
“The longer interest rates stay lower, the more millennials will not be familiar with CDs,” said Abrams.
Even some older members of Generation X would not have accumulated significant enough assets prior to the recession to have considered a CD strategy.
COMPARISON SHOP
The next generation of CD investors will have a more flexible shopping experience than in the past. Chen remembers one client, pre-recession, who had CDs at every bank in town because he was always shopping around for the best rate.
Today there are online marketplaces, like Bankrate, that make it possible to easily shop around outside your geographical area.
It is also simpler to transfer money electronically and manage many accounts with one app such as Mint (mint.com). Good shoppers stand to benefit.
“The Fed is going to raise rates gradually, and banks will boost rates even more gradually,” said McBride. “You’re going to have to seek it out. Don’t wait for your bank to pass it along.”
(Editing by Lauren Young and Bill Rigby)
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