Brokerages sell newly issued CDs as well as certificates of deposits on the secondary market. That means that if you buy a three-year CD with a 2 percent yield for $1,000 and then want to get out of it, you can sell it to someone else rather than get hit with an early-withdrawal fee as you would in a normal CD.
The risk comes into play when investors pay a premium for a brokered CD on the secondary market. If for instance a three-year CD is for sale with an unusually high yield, an investor might pay more than the CD is worth in order to get that yield.
“If you do your yield calculations right you say I don’t mind losing 1 or 2 cents on the dollar because in the interim, I’ll make 5 percent,” says Donald Cummings Jr., managing partner at Blue Haven Capital, in Geneva, Ill.
But, should the bank go out of business, the FDIC or the acquiring bank will only pay what the CD is worth, which means investors can lose money on their investment.
“When a bank goes under — and we’ve got more banks going out than ever — the people that buy brokered CDs at a premium are losing money if those bank CDs get called in early,” says Cummings.
Though the risk of bank failure is a small one, the loss to an investor can be significant. If you’re thinking of buying a brokered CD, check Bankrate’s star rating of the issuing bank to make sure it’s safe and sound.
Would you buy brokered CDs or do you prefer to do it the old-fashioned way?