Power Up Wealth podcast – To Buy a CD or Not to Buy a CD – Episode 42 transcript:
Sharla Jessop 0:00
Interest rates for CD accounts have been increasing, which has many people wondering if it’s a good time to lock in some rates. I’m Sharla Jessop, President of Smedley Financial, and today we will discuss when to buy or not to buy a CD with my guest and colleague Jordan Hadfield.
Welcome to the SFS Power Up Wealth podcast where we provide impactful insight and expert opinions on timeless financial principles and timely investment topics, preparing you to make smarter decisions with your money.
Jordan Hadfield is a wealth advisor with Smedley Financial, he holds a Certified Financial Planner and Behavioral Financial Advisor designations. Jordan, thanks for joining me today.
Jordan Hadfield 1:00
Thank you for having me.
Sharla Jessop 1:01
Over the last year, investors have focused on the market, the economy, and the possibility of a looming recession. Why do you think it’s important to talk about CDs?
Jordan Hadfield 1:10
I’m getting a lot of questions about CDs. A lot of questions. There’s a lot going on in the economy right now. There’s a lot of different areas that are fluctuating greatly. Moving, jiving, jumping around, falling apart. It’s crazy out there. And because of that, investors are often looking towards safety. And due to the environment we are in with rising interest rates, there’s a lot of fixed rate investments that look attractive through a historical lens, especially with the recency bias. Interest rates on a CD has been very low. If you just look back a couple years. And now we’re seeing them around 5% and that’s, hey, that sounds pretty good if I can lock that in risk free. So we’re getting a lot of questions about that. It’s a topic of conversation.
Sharla Jessop 1:54
That’s pretty enticing when you hear those numbers, for sure.
Jordan Hadfield 1:57
Yeah.
Sharla Jessop 1:57
There’s a range of different types of accounts, from very short-term to really long-term. Walk us through those different accounts so that we have an understanding.
Jordan Hadfield 2:06
And before I do that I do want to state that when interest rates change it’s not just CDs that change. Interest rate changing effects a lot of different accounts and a lot of different investment options. So even things that aren’t fixed rate are affected by a change in the federal funds rate. So as the federal government raises interest rates, the whole landscape looks different. It’s important to keep that in mind. One thing that’s not changing with interest rates is what you’re being paid in your checking and savings account. I mean they’re next to nothing. On average checking is paying like .05% up to about .2%. Now there are some accounts that are paying a little better than that. But that’s typically what we see for a standard run of the mill checking savings account. There are other types of specific saving accounts such as, you know, I’ve see students savings accounts, and these kind of things. And a lot of those accounts are really money markets, disguised to savings accounts. So your checking and savings at your bank, or your credit union is probably not paying very much at all. Interestingly, they’re called a savings account. But it’s not a place to save. Savings account is not meant for savings. And I’m constantly talking to clients about this, especially in a high interest-rate environment. That is not where we want to be saving our money. A savings account is really for very short-term savings. Okay, so typically, I tell people, anywhere less than a year, that’s great for a savings account ata bank. If you’re planning to spend it for a specific goal, or, you know, just kind of a little extra in case you have an expensive month, but even your emergency funds should not be held in a savings account because of that.
Sharla Jessop 3:52
That makes sense. I think over time, people have allowed a lot of money to build up in those savings accounts. You weren’t getting more interest anywhere else locking it up, you weren’t really gaining anything you were just locking up your money. So tell us about now the next step from savings accounts and money markets.
Jordan Hadfield 4:08
Yeah, in the current environment, money markets and high-yield savings are becoming more attractive for you know, for again, for short-term goals, or emergency funds. Money markets, most money markets are FDIC insured. Okay, FDIC insurance covers up to $250,000 per account type. So you can have multiple accounts as long as they’ve got different registrations, and qualify for for more insurance. SVC Bank qualifies for a lot more insurance than not $250,000. But most people $250,000 per account type is what you’re gonna get. And most money markets are FDIC insured. Most high-yield savings accounts are FDIC insured as well. They pay quite a bit more again in the current environment, money markets, high yield savings are paying somewhere between 3.5 and 4.5 percent.
Sharla Jessop 4:59
Is your money locked up in a high-yield savings or money market? Can you just get to all of it at any point in time? Or are there any restrictions?
Jordan Hadfield 5:05
No, no, it is not locked up. Usually, there is somewhat of a processing delay. In other words, typically with a money market and a high-yield savings account, I can’t walk down to my local bank. But many banks do offer money markets, and in a money market account at a local bank, you can walk down same day and get it. High-yield savings is a savings account. It’s just like the savings account at your bank or your credit union. But there isn’t a brick and mortar location that you can walk into. So because it transfers online, there’s usually a day or two delay on ACAT transfers, but 100% liquid. I mean high yield savings is a savings account. So FDIC insured, you know, it’s got all the same requirements and no risk, you know, exactly like any savings account anywhere.
Sharla Jessop 5:52
So good place to put money that’s maybe a little bit longer term, like your emergency savings.
Jordan Hadfield 5:59
Yeah, so I recommend that everyone hold their emergency savings in a high-yield savings account or money market. Rates aren’t typically as good as they are right now. You know if you look back the last 10 years, we haven’t seen rates at a high-yield savings account this high. So it’s going to fluctuate as rates drop, the rates in these accounts will drop with it. But they’re always going to be better than a checking savings account.
Sharla Jessop 6:20
What about certificates of deposit?
Jordan Hadfield 6:22
Yeah, so this is the big one. I’m getting a lot of questions about a certificate of deposit. A CD is illiquid. That’s very important for people to understand. You buy a CD, a standard, a typical CD, you buy it for specific term, usually they come in like six months, nine months, 12 months, 18 months, 24. And then they go on from there, it is very rare that we recommend someone purchase a CD for over 12 months. That’s a long time period. And there, there are options available that generally just do much better. Plus you don’t have to give up the liquidity. So 12 months CD, personally, I don’t ever see myself buying a CD over 12 months, I never have and I’m not interested. There’s better opportunities. So that’s important to know. There are a couple different types of CDs. When you buy a CD, you lock in a rate. Okay, currently, let’s say rates on a CD are anywhere from three to five percent, depending on where you buy it and how long you buy it for. So you lock in that rate. So that’s nice because there’s a guaranteed rate. It doesn’t matter what happens, you’re gonna make, you know, 5% on a 12 month CD. It’ll mature at the end of that 12 month period. And depending on how it’s set up, you’ll either reinvest automatically into the next CD. So something to be careful of, or the CD will liquidate and it’ll just move back to your checking savings account. The principle that you put in plus the 5% interest. So that’s pretty good. There are other types of CDs. There’s a bump rate CD which usually you have a lower stated interest rate to begin with, but as interest rates change, you have the option to bump up your interest rate. That’s something that you typically have to call and initiate. But it’s kind of a cool feature. Know that the stated interest rate to start with is lower than your standard CD. Not always a good idea, but it could be. The other type of CD that’s worth mentioning is a step up CD. And that will kind of step up automatically as interest rates decline or increase, excuse me. But again, you’re taking a discount when you purchase the CD with the rates that they are now, a lot of people are saying, Hey, I should lock in these rates, I should lock in these rates. The problem with the CD, particularly a long-term CD, is it feels a lot like stepping over dollars to pick up dimes. 5% looks fantastic. But when we compare it to opportunities, and I’m not talking about even in the stock market, I’m just talking about other opportunities to lock it in for a long period of time at 5%, you may actually be locking in a lower rate than you could get somewhere else.
Sharla Jessop 8:51
Reality is right now you can’t even get a five year CD at 5%. Because the way that the they’re set up, you’re earning a higher rate on a 12-year maybe up to 24 months. And then from there, the interest rate is dropping. So the guarantee is dropping. So it’s not likely you’re gonna get 5% for five years, but there are places where you might get something like that.
Jordan Hadfield 9:11
Absolutely. So there are other options. There’s something called a fixed annuity. Now, when I say the word annuity, I always feel like I need to kind of circle back and talk about what an annuity is. An annuity is not typically a product that I implement with my clients. Annuities are complex, and they can be expensive and they’re difficult to understand, particularly for a client, they can be difficult to understand. And most importantly, they’ve often been misused, which has given them a bad reputation. So sometimes when the word annuity comes up, some people immediately are not interested. A fixed annuity is very, very different than an indexed annuity or a variable annuity. A fixed annuity is just like a CD, but it’s longer term, and it typically pays better. So fixed annuities right now are paying between 4.6% and 6%, depending how long. Typically fixed annuities are three years, five years, seven years. You can buy them in different term lengths. But those are most common. And to be able to lock in an interest rate that high for that long is really good. Without boring everybody about an inverted yield curve. Typically speaking, the longer you lock up your money, the better rate you should have. That’s not what we’re seeing right now, we’re in an environment with an inverted yield curve. And there’s actually a drop if we extend our investment in some of these fixed-rate investments for long time. Again, another reason why you would purchase a 12-month CD and not longer. But with a fixed annuity, we can kind of take advantage of locking in a higher rate for longer for very conservative investors. This is a conservative investment. Just like the CD, a fixed annuity is locked up. It’s illiquid. If you put money in there, the idea is we do not touch it or pull from it until it matures.
Sharla Jessop 10:54
Because there are some penalties. Unlike a CD where the penalty might be just you lose some of the interest. Here you actually can lose some of your principal, if you pull the money out.
Jordan Hadfield 11:03
That’s exactly right. Yep. So they’re gonna offer a little bit better interest rate, but there’s also a little bit higher fee if you need to pull from it. Now, there are some different things you can add to fixed annuities to allow you to access just the interest or for qualified accounts in an IRA, you can access an RMD. So there are some options there. But again, the idea is we’re locking your money up for five years, we’re not touching it.
Sharla Jessop 11:28
As long as you have a plan and you know what you’re using your money for and that you’re not you have money available for the shorter term. I think that’s a great opportunity, a great option to consider.
Jordan Hadfield 11:37
Yeah, and one thing to point out is fixed annuities do not come with FDIC insurance. Most CDs do have FDIC insurance. And so a lot of people who are seeking that insurance will gravitate more towards CDs, than fixed annuities. But if you’re an investor, and this type of product works for you for a five-year period, and that’s not everybody, I want to emphasize that I’m not recommending everyone go out and buy a fixed rate, a fixed annuity, I don’t think most people should even looking at this product. But for those where it works, it is a very, very conservative investment. And there is insurance there in place in different forms. It’s just not FDIC insured.
Sharla Jessop 12:15
What about another short-term type of investment is bonds.
Jordan Hadfield 12:19
Bonds don’t have a guaranteed interest rate. So unlike money markets, high-yield savings, CDs, fixed annuities, if you put your money in bonds, you’re taking on some risk, there’s no guarantee. However, relatively speaking, bonds are quite conservative. Okay? Bonds can be volatile. Last year was a rough year for bonds. But it’s very rare that we ever have two negative years in a row for bonds. In fact, even during the 2008 crisis, the fixed-income space bonds did very, very well, again, relatively speaking, people didn’t make a lot of money, but there was a lot of protection there. They didn’t lose, right. So bonds is a very safe place to be, generally speaking, there are some bonds that are more high risk. And there are some bonds that are more more conservative, but as a whole bonds are generally considered to be much safer. If you’re an investor that has a time horizon over three years, I think an allocation into bonds to some degree is a very wise decision. And I think it’s because the potential for bonds, particularly in a high interest rate environment increase. So there are times that bonds have returned double-digit returns in a single year. And so again, for the investor who’s saying, there’s a lot of volatility in the market right now, I don’t want to invest. I’m a little scared about what’s going to happen. I think a shoes gonna drop, I think the bottom is going to fall out of this thing. I want to lock up a guaranteed interest rate in a CD. That’s a good idea for some in the short-term, but don’t overlook the opportunity and other conservative investments such as bonds.
Sharla Jessop 13:54
That makes sense. You know we’re talking about a lot about short term investing and protecting money and conservative nature but most people are really have a longer a longer time. You know, why are so many long-term investors infatuated with the short-term rates? Have their goals and values and long term perspectives change?
Jordan Hadfield 14:13
This is exactly what I’m asking my clients. I get a lot of people saying, you know, I’m interested I want to sell some sell some riskier assets and move into a CD or a fixed annuity or, or what have you. And that’s my question to them is why? Have your goals changed? Have your is your time horizons changed? You know, I’m gonna be honest, selling stocks right now and moving into a fixed rate, you know, locked in like a CD may not be unlike yelling, hey, watch out to someone who has already been hit by the bus, right? The stock market has dropped 20% from last year. There’s a possibility it can go lower right? But once you sell you’re locking in those losses, and so to lock in a 20% loss to try and lock in a 5% gain doesn’t make a whole lot of sense for a long-term investor, when there’s potential to make up that 20% loss and some in the stock market. I want to point out recessions are common. We see them all the time. And there’s nobody, there isn’t an investor out there who isn’t experienced with, with some sort of down market. And everyone knows that they happen, right. Despite all of the down markets, we’ve seen throughout history, the stock market has returned 767,709% since 1928, that’s a lot! The stock market is the place to be for long-term investors, even though there are recessions and there are declines. And there are periods of time where it’s scary to be an investor. You know that 767,000% that has been returned for stocks is payment for your patience through the volatility. And so no matter what the situation, right, it’s always important to remember exactly what you just asked, which is, what are my long-term goals? What are my objectives? What is my time horizon? And invest accordingly. And for the vast majority of people, an allocation into stocks and bonds is going to be a much better place in long-term than locking in fixed-rate CDs or fixed annuities.
Sharla Jessop 16:17
That makes sense. Every time we’ve had a market correction, we’ve always had a rebound.
Jordan Hadfield 16:21
Yeah. And it’s funny, because everybody knows that. But in the moment, fear takes over. You know, one of the most dangerous things that investor can say is this time is different, right? It’s a different problem every recession, but the fact remains that we recover. The stock market recovers and we enter a new growth cycle. And throughout history, stocks have been the place to be for long-term investors. And I have no reason to believe that will change. I am investing in stocks and equities currently. And I see this as a real opportunity. Stock market is down 20%. That’s a discount. I’m not going to run away from a sale. Right? Although we may see further drop here in the near future, we may not. And either way, you know, the market should be positive five years, 10 years, 15 years, if you’re planning for retirement, it could be 25 years, 30 years out. I mean, there’s a lot of room there for a lot of growth. And it makes the interest rates that you’re locking in a CD minimal next to nothing.
Sharla Jessop 17:21
And I think being put in a position to take advantage of the market, as it turns is really important. You know, if you’re out of the market, and you’re in a CD and locked in, first of all, you’re not going to probably notice that the market has turned until after the initial growth period. And then you have to wait for your money to be available to reinvest. So I think it’s smart to keep a long-term perspective in mind.
Jordan Hadfield 17:43
Yeah, absolutely! And in fear of beating a dead horse, I will mention again, when you lock in your money in a CD, if an opportunity comes, you can’t take advantage of it. Which is why I say don’t buy a CD over 12 months. And if you’re a long-term investor, I don’t even know that I’d be buying a CD at all right now. Again, emergency funds, short-term savings, it’s great. But for someone three years out, I would be looking forward to growth opportunities to come.
Sharla Jessop 18:10
Jordan, thank you for explaining all the different options that are available. You know, in the current marketplace, sometimes it’s easy to get side stepped by what’s happening right now and forget that long-term perspective. And I think understanding how interest rates play into it and how the short-term interest rates specifically benefit or can be an advantage or disadvantage for investors is important.
Jordan Hadfield 18:32
Yeah, absolutely.
Sharla Jessop 18:33
Thank you.
Jordan Hadfield 18:34
Thank you.
Shane Thomas 18:34
Thank you for joining the Power Up Wealth podcast. Smedley Financial is located at 102 S 200 E Ste 100 in Salt Lake City, UT 84111. Call us today at 800-748-4788. You can also find us on the web at Smedleyfinancial.com, Facebook, Instagram, Twitter, and LinkedIn. The views expressed are Smedley Financials and should not be construed directly or indirectly as an offer to buy or sell any securities or services mentioned herein. Investing is subject to risks, including loss of principal invested. Past performance is not a guarantee of future results. No strategy can assure a profit nor protect against loss. Please note that individual situations can vary. Therefore, the information should only be relied upon when coordinated with individual professional advice. Securities offered through Securities America. Inc., Member FlNRA/SIPC. Roger M. Smedley, Sharla J. Jessop, James R. Derrick, Shane P. Thomas, Mikal B. Aune, Jordan R. Hadfield, Registered Representatives. Investment Advisor Representatives of Smedley Financial Services, Inc.®. Advisory services offered through Smedley Financial Services, Inc.® Smedley Financial Services, Inc.®, and Securities America, Inc. are separate entities.
