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Ask Dr. Don

Money market vs. CD investing

Dear Dr. Don,
I have $10,000 to invest. Which would be better: a two-year certificate of deposit or a money market account? How do they differ?
Louis Lucrative

Dear Louis,
The main difference is in the liquidity of the investments. A non-negotiable CD is meant to be a buy-and-hold investment. If you need your money prior to when the CD is scheduled to mature, you pay a penalty for early withdrawal. That penalty is typically the loss of three to six months worth of interest income. This Bankrate feature explains early withdrawal penalties in greater detail.

Money market accounts are set up so you can readily access your funds without penalty. The price for this convenience is usually a lower yield on your investment, as shown in the table below:

Money market/CD yield comparison
Two-year CD rate:1
Money market account:
$10,000+ MM account:
Top yielding MMM fund:2
1Bankrate weekly averages for CD & money market accounts
2Money market mutual fund yield provided by iMoneyNet Inc.

Money market accounts can be Federal Deposit Insurance Corp. insured but money market mutual funds are not insured deposits. The mutual fund industry does a good job protecting your principal, but you should understand how the fund invests by reading its prospectus before committing any money to a money market mutual fund.

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So, if you don't expect to need this money in the next two years, you can earn more by investing a 2-year CD. You could also use Bankrate's Best Rates search engine to find a high-yielding 2.5-year CD. (Bankrate doesn't track two-year CDs on its Best Rates page.)

Generally speaking, don't invest long-term when you expect to need the money in the short-term. The converse is also true. Don't invest short-term when you won't need the money for a while. You're accepting a lower return for liquidity that you don't need.

A happy medium when investing in CDs is to construct a laddered CD portfolio.

-- Posted: Sept. 26, 2002

Read more Dr. Don columns
See Also
The difference between money market mutual funds and money market accounts
CD 'early withdrawal penalties' explained
Financial advice glossary
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