CD Alternatives

Making the right choice

When the rates offered by banks on CDs (Certificates of Deposit) and savings accounts decline, many consumers look for higher yielding investment options. An increasing number of consumers have taken on more risk by moving into stocks, bonds, mutual funds, fixed-income insurance products such as annuities, and other investment vehicles. Indeed, almost any investment product may be marketed as a CD alternative.

When considering placing your money in one of the many CD alternatives, recognize that not all products offered by or through banks are insured. Banks are now going to great lengths to hold onto deposits, including offering investment and insurance services through affiliates and subsidiaries. If you decide to use such services, always keep in mind that while the financial institution's deposits and some instruments (e.g., CDs) are government-insured, the same is not true when it comes to the bank's brokerage and insurance services. Do not assume that just because you are dealing with a bank, the investment product is as safe as a CD or that no fees and charges will be imposed.

Moving away from government-insured bank instruments is a big step for individuals who are reluctant to expose their principal to any risk. Keep in mind this simple trade off: The greater the potential income from your investment, the more you sacrifice the safety of your principal. If you cannot afford to lose all or some portion of the money you have to invest, it may be unwise to give up safety, no matter how tempting the promised or projected returns.

Understand your investment objectives and act accordingly. The flip side of the risk "coin" is that some investors are overly cautious and as a result, diminish the likelihood that they will be able to meet their investment objectives. All risk is not equal and all risks are not bad. If you require assistance in determining how best to meet your investment objectives, consider seeking the advice of a professional, such as an accountant or investment adviser.

Know your potential investment. If you are thinking about buying a security (such as a stock, bond, or mutual fund), read the prospectus before investing. Identify and understand the risks associated with each investment. In particular, read carefully all information about price, liquidity, fees, tax implications, etc. Keep in mind that mutual funds, annuities, unit investment trusts, and most other securities are not protected by the Federal Deposit Insurance Corporation (FDIC).

Deal only with reputable firms and individuals. Always exercise caution when it comes to the handling of your money. Take the time to do your homework and check out the background of all securities firms and professionals. The Iowa Securities Bureau has disciplinary and other information available about all licensed brokerage firms and individual brokers. The Iowa Securities Bureau’s address is 340 East Maple Street, Des Moines, IA 50319-0066. The agency’s telephone number is 515-281-5705 OR 800-351-4665.

Shop around before settling on a brokerage firm and individual brokers. While it is relatively easy to shop around for the best deal on CDs, do not assume that it will be easy to identify the best deal on brokerage or insurance services. For example, the commissions that stock brokers charge are not fixed and can fluctuate widely, even among discount brokerage firms. "Loads" and other costs involved in mutual funds also may be dramatically different. Make sure you understand not only the investment you are contemplating, but also how much and exactly how you will be charged for the services of the brokerage or insurance firm involved.

IF YOU DECIDE TO STAY WITH CDs... You may decide to sit tight and keep your money in CDs. If you do, watch out for "special deals" that banks will advertise periodically in which CDs will be offered at two or three rate points above the average of other financial institutions. What is going on here is quite simple: The banks offering the deal have short-term capital needs that require quick infusions of funds. Some high-rate offers, however, may be available for as little as a week or two. Others may be linked to future interest rate movements or other circumstances. Make sure that you fully understand the conditions and specific features of any "special" CD deal in which you place your money.

Virtually any investment, from limited partnerships to government bonds, can be sold as an alternative to CDs. All alternatives, except U.S. Government bonds, have more risk than government insured CDs or savings accounts, but some are riskier than others. When seeking investments with higher yields, you must decide for yourself just what risks you are willing to take, considering your investment goals, income needs, and how much you can afford to lose. Additional investor education information is available through the Iowa Securities Bureau at the address and telephone number listed above or at North American Securities Administrators Association (NASAA) and 202-737-0900.

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