Index CD may boost returns but add risk

Business newspaper showing Index CD chart and world map
  • The key is to understand these complex instruments before buying.
  • Investors in gold-linked CDs "are doing fabulously."
  • Investors in currency CDs earn interest and benefit from currency gains.

Think that CDs are plain vanilla investments?

Think again. Low CD rates are pushing consumers to think outside the traditional CD box. The result is that a CD that is linked to currencies, stock indexes or commodities is increasingly gaining traction.

Called an index CD, its main appeal is that it's linked to an index that can potentially boost returns by participating in market rises. So, say you have a five-year CD that's linked to the S&P 500. If it goes up 30 percent during that time, investors can cash in on that growth when they redeem their CD.

"People do have to grow their money," says John Rhett, chairman of SunTrust Investment Services in Atlanta, who has seen surging interest in his company's index CDs. "They're sitting on nearly zero percent interest rates. So they're willing to take more risks."

Firms like Wells Fargo and JPMorgan Chase offer CDs linked to baskets of stocks and commodities. And there are also CDs linked to the S&P 500 or Dow Jones industrial average at Union Bank, based in San Francisco, which began offering index CDs in the past year. "You can make a CD linked to almost anything that has a daily price," says Rhett.

The trick is to understand these complex investments, since there are lots of quirks: short offering windows, varying pricing structures and differing caps on upside potential.

"Each company has its own structure," says J. Scott Miller, managing partner at Blue Bell Private Wealth Management in Pennsylvania. Fees even vary, he says. Given the many twists and turns, regulators are looking very closely at these CDs, say experts.

Miller says that many index CDs are too complicated for average investors to understand, model and predict returns. "Make sure you understand exactly how they work," Miller says. Some catches aren't evident in sales pitches. "How is your profit calculated?" he says.


Other experts add that these CDs are virtually illiquid. There's no secondary market and you're penalized for early withdrawals. That's why they are strictly buy-and-hold investments.

Also, hybrid CDs come and go. Gold-linked CDs were offered by JPMorgan and EverBank during the financial meltdown. But they were eventually pulled because they were expensive for investment firms to offer. "But the investors that bought them are doing fabulously," says Chuck Butler, president of EverBank World Markets. Currently, SunTrust offers a gold-linked CD through its brokerage arm.

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