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Can commodities lift CD rates?

By Sheyna Steiner · Bankrate.com
Wednesday, March 9, 2011
Posted: 10 am ET

As the economy chugs through this era of low interest rates -- with the corresponding low CD rates -- a few interesting index CDs have popped up to fill the CD-income void.

For instance, EverBank has a line called MarketSafe CDs that are linked to various markets including currency, Japanese REITs, metals and, their latest CD offering, commodities. 

The CD gives investors exposure to the volatile commodities market with a downside guarantee. According to the term sheet, investors can't lose money -- 100 percent of deposited principal is guaranteed. And there are no account fees.

But, there are a couple of caveats. The minimum investment is $1,500 and the CD is only available for purchase until March 17.

The investment is locked in for five years with no early withdrawals, except in the case of death or if the investor is declared incompetent. But even kicking the bucket won't guarantee a 100 percent refund of principal.

From the EverBank MarketSafe CD term sheet:

"If you do withdraw early, even if that is due to the death or adjudicated incompetency of the holder of the CD, you will NOT receive Principal Protection and will NOT benefit from any upside potential of the Reference Index, experiencing a loss of principal as an early withdrawal charge."

The ultimate payoff after five years is based on the returns over that time period. The value of the index is established on the first pricing date; then each year, the index is priced on one set date. To arrive at the value of the index, each individual commodity is priced, the values are added together and divided by 10. The upside for individual commodities making up the index is capped at 10 percent. The downside is capped at 20 percent.

At the end of five years, the interim returns are added up to get the cumulative return. It could be a big fat goose egg or anything above zero.

There's also a participation factor calculated into the payment.

The tax implications are bit trickier than your average CD as well.

From the terms and conditions page (emphasis theirs):

"There are significant tax implications if you do not hold this Product in a qualified tax deferred account. For United States federal income tax purposes, EverBank intends to treat a MarketSafe CD as a 'contingent payment debt instrument' subject to taxation under the 'noncontingent bond method.'...

"For each calendar year prior to the year in which the MarketSafe CD matures, during which you hold the Product, EverBank will issue you an IRS Form 1099 OID after the end of each year that will report the amount of interest that you are deemed to receive on the Product. These amounts will also be reported to the Internal Revenue Service.

"BECAUSE YOU MAY NOT WITHDRAW FUNDS DEPOSITED IN THE PRODUCT PRIOR TO MATURITY AND WILL NOT RECEIVE ACTUAL PAYMENTS OF INTEREST PRIOR TO MATURITY, YOU MUST BE PREPARED TO PAY INCOME TAX ON THIS INTEREST INCOME WITH ANOTHER SOURCE OF FUNDS. BECAUSE OF THE RULES THAT APPLY IF YOU HOLD THE PRODUCT OUTSIDE OF A QUALIFIED TAXDEFERRED ACCOUNT, IT IS POSSIBLE THAT YOU WILL BE REQUIRED TO PAY TAX ON INTEREST INCOME THAT YOU NEVER RECEIVE. IN THIS EVENT, HOWEVER, YOU SHOULD BE ENTITLED TO DEDUCT THE EXCESS AMOUNT AS AN ORDINARY LOSS IN THE YEAR OF MATURITY."

This week, the average yield on a five-year CD is 1.71 percent. Depositing $1,500 will result in $132.71 in interest at the end of five years.

It's certainly conceivable that the commodities CD from EverBank could do better. It could also do worse. Investors could get no return on their money at the end of five years -- and pay taxes on interest income they never get.

What do you think, worth the risk?

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4 Comments
tory burch
April 08, 2011 at 4:20 am

Now you make it easy for me to understand and implement Thank you for the post.

barefootpoet
March 10, 2011 at 11:21 pm

I really like the concept of an "index CD" but 5 years seems way long to be locked into a certain metal, currency, or other commodities. If I had one year index CD invested in silver I'd be smelling like a rose.