Dear Dr. Don,
My broker is offering CD rates of 9 percent for at least a year on one CD. He said banks need to have a certain amount of cash and approach institutions for cash at a higher rate. My brokerage firm makes no commission and offers this only to its good clients. Have you heard of this?
-- Michael Moneyed
Dear Michael,
When banks can borrow reserves from each other at a targeted federal funds rate of zero to 0.25 percent, there's not much reason for them to pay 9 percent on a CD. The Federal Reserve's discount rate is just slightly higher at 0.5 percent. The discount rate is the interest rate the Fed charges when it lends banks needed reserves.
It's likely that you missed some piece of information in the broker's offer. My best guess is that your broker is reselling a brokered CD, which is a negotiable security with a stated interest rate and maturity. The broker can make his money in how the security is priced and doesn't have to charge you a separate commission.
There's a relationship between risk and expected return. Investors want to be compensated for the risk they take on. CDs are typically low-risk investments because they have insurance coverage from the Federal Deposit Insurance Corp.
I'd suggest looking at the Securities and Exchange Commission's investor publication "High-Yield CDs -- Protect Your Money by Checking the Fine Print" before continuing your discussion with you broker about this investment.
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