Could Certificates of Deposit be an Asset to Your Company?
If your company’s cash reserves are growing, you need an effective plan to ensure that you are getting the most from that cash. The ideal plan secures your funds while helping you earn the maximum return.
Your cash management plan will likely include Certificates of Deposit [CDs]. These investments offer the ultimate safety coupled with steady yields for corporate cash. By understanding how they function, you can choose the right strategy to optimize your cash management plan.
How CDs Work
The main benefit of CDs is a steady rate of return. However, in order to enjoy these yields, you need to understand how CDs function within your portfolio – starting with their term.
CDs Have Set Terms
A CD holds a fixed amount of your company’s money for a predetermined timeframe – e.g. six, twelve, twenty-four, or even sixty months. The length of time you allow the bank to hold the money is called the term of the CD.
In general, banks pay higher rates for CDs with longer terms. This is due to increased time and flexibility in how they can use the cash.
CDs Have Set Interest Rates
Interest rates for CDs are generally fixed for the term of the investment. That means you will know the rate that you will receive and the schedule on which you will receive it before you invest.
A fixed yield can be particularly important in a market with volatile interest rates. For example, if market interest rates fall during the term of your investment, it doesn’t impact the return you earn from your CD.
CDs Have Early Withdrawal Penalties
If you need to access the money in a CD before the end of the term, you will typically owe an early withdrawal penalty. This penalty is often between 3- and 12-months’ interest and depends on the term of the investment.
CDs are FDIC Insured
CDs issued by FDIC member banks are insured by the Federal Deposit Insurance Corporation [FDIC]. This coverage offers the ultimate protection for cash, but is limited to $250,000 per account ownership category at each financial institution.
Business cash reserves often vastly exceed the standard insurance limit. Fortunately, fintech has made it possible to access extended government insurance for your company’s entire balance.
CD Strategies Can Enhance a Cash Management Program
There are several strategies you can implement with CDs to add value to your cash management program. A few of the most popular are buy and hold, replacement at a higher rate, and CD ladders.
Buy and Hold
One common strategy is to buy a single CD with a term and interest rate that matches your needs and then hold it to the end of the term – also known as the CD’s maturity. At maturity, you have several options. These include:
- choosing not to re-invest. You can choose to have the CD proceeds transferred to a checking, savings, or money market account. This could also happen automatically, depending on the criteria you agreed to when purchasing the CD.
- automatic reinvestment. Depending on the terms of the CD, the funds could be automatically reinvested in another CD with the same term at maturity. However, with automatic reinvestment you are not guaranteed the same interest rate on the new CD. Instead, the new yield would be based on the current rates offered by the financial institution.
- manual reinvestment at a new term. You can also choose to invest your funds in a longer- or shorter-term CD. To do this, you would need to let your bank know before the CD matures. Like with automatic reinvestment, the rates on new CDs will be based on the bank’s current offerings.
To determine how to proceed when a CD matures, consider current rates and when the funds will be needed. If the bank’s current interest rates don’t meet your needs, partner with a deposit management company that offers nationally competitive rates from a vast network of banks and credit unions.
Replacement At a Higher Yield
When interest rates are rising, it can make sense to reinvest CD funds prior to maturity in certain cases. It typically makes sense when your company can gain a more competitive interest rate, net of early withdrawal fees.
For example, from February 2022 to February 2023, average CD rates rose nearly 5x. In many cases, businesses that purchased CDs in 2022 or earlier benefitted from cashing out those CDs and reinvesting in a new CD at higher rates – even after early withdrawal penalties were considered. This case study provides a detailed example of how one company more than doubled their interest income after early withdrawal fees.
The rates that banks pay for similar accounts vary widely based on geography, bank structure, and bank needs. For this reason, it can make sense to reinvest CD funds if you can earn more interest, net of early withdrawal penalties, even when interest rates are stable or declining. Again, the right deposit management partner makes it simple to compare rates and switch to higher paying CDs when they are available.
CD Ladders
A CD ladder is an investment strategy that involves buying multiple CDs with varying terms so that funds mature at a series of set dates. This strategy can be beneficial if your company needs to spend funds on a predictable schedule, such as for a construction project that will take several years to complete.
A CD ladder can also be useful if you want frequent opportunities to reinvest CD proceeds at new rates. This can be particularly helpful when you believe more competitive rates will become available.
Locating Advantageous CDs
To get started investing in CDs, it’s natural to begin with your preferred bank. However, a local bank may not have the term or interest rate you need.
To optimize your CD strategy, look to a fintech powered deposit management partner. The right partner will be well positioned to help you locate advantageous CD rates and simplify the investment process.
Optimize Your Company’s CDs with ADM
At American Deposit Management [ADM], we help businesses optimize their cash reserves through our proprietary fintech. We have used this technology to curate a nationwide network of financial institutions that compete for deposits. Therefore, you receive nationally competitive interest rates from the banks and credit unions in our network.
In addition to competitive returns, our fintech allows us to provide access to extended government protection so that every penny of your cash is insured by the FDIC or NCUA. We also locate and manage CD investments on your behalf to reduce your workload. All you need to do is fill out a simple application and make a single deposit. Our experienced cash consultants take it from there.
To learn more about ADM, or get started today, contact us.
*American Deposit Management is not an FDIC/NCUA-insured institution. FDIC/NCUA deposit coverage only protects against the failure of an FDIC/NCUA-insured depository institution.
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