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Big CD perk: Predictability

By Claes Bell, CFA · Bankrate.com
Tuesday, August 28, 2012
Posted: 5 pm ET

With rates for certificates of deposit at historic lows, there's not much to love about CDs these days. But one advantage still holds: predictability.

In the world of finance, trying to predict the future value of an investment is a big deal. Analysts spend a lot of time pouring over the details of an investment, looking at past performance, economic conditions, fundamentals of the investment, past performance of similar investments and other factors to try to predict what an investment will be worth in the future.

At best, what they end up with is an educated guess because most of the time, there's just no way to know with certainty what the return will be. However, there are a couple of exceptions. U.S. Treasuries are one exception. They pay a fixed rate of interest until the date they mature as long as the U.S. government stays in business.

CDs represent the other exception. Because CDs are backed by the full faith and credit of the U.S. government and their rate of return is fixed, unless the bank fails and the acquiring bank lowers your rate, you can be pretty sure what you'll be getting back on the date of maturity.

That predictability makes CDs a perfect vehicle for coming up with a specific sum of money at a specific point in time. Say you know you'll need $50,000 to fund your first year of retirement five years from now. All you have to do is find a five-year CD bearing 1.75 percent interest and stash $45,811 in it. Assuming the interest is compounded daily and you elect to reinvest it, you'll have your $50,000. No worrying about the market. No fretting over which direction rates are headed. Just the money you need, when you need it.

The same logic applies for any lump sum you need to have ready on a specific date, whether it be a down payment for a new house or a tuition payment for your child's first year of college. So while low rates have diminished CDs' usefulness , there are still some circumstances where it can be a useful financial tool.

What do you think? Have you ever used a CD this way? Did it work out for you?

Follow me on Twitter: @ClaesBell

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1 Comment
laura locascio
August 29, 2012 at 9:31 am

If Mitt Romney becomes President...I wonder if CD interest rates
will rise.

Wonder if this present President ...Will try to raise interest rates CD) before the election ...Just to get more votes..

It is just a comment.