Those of you have read what I have written in the past understand that my crusade against the word saving when in fact investing should be used. I have felt that much of the dismay retirement investors felt was based on the misconception that their money was somehow safe, losses were what the other guy felt and the stock market was risk free.
Combine all of those sentiments and you have a marketplace ripe for the picking. Swooping in to take advantage of the forlorn 401(k) investors were the purveyors of target date funds (a combination of stocks and bonds that adjusts from aggressive ot conservative over the period targeted by the investor) and bond funds.
But there is another way to take advantage of your unwillingness to assume risk – or a least enough risk to make the investment worthwhile: the indexed certificate of deposit.
The Primer on Indexed CDs
We are all aware of what certificates of deposit are. Insured against loss by FDIC, CDs offer the saver a conservative, short-term way to reap a little bit of interest in exchange for depositing their money in a bank. As of this writing, it is around 1.5% for a one year certificate of deposit.
Indexed CDs are like regular CDs with some distinct exceptions. The similarities: insured by the FDIC, sold through banks, and the principal is safe. The differences: the yield (or interest paid) can fluctuate, the terms are usually longer and have penalties for early withdrawal, you can yield far more than traditional CDs and the most important difference, they are tied to the stock market.
The Upside
While many investors are looking for robust returns, most have shifted to investments that may not provide what they had hoped for. Indexed CDs can help with those expectations while serving your skittish, I-am-still-sort-of-afraid approach. By tying these deposits to an index, typically the S&P 500 index, these saver/investors get some – but not all of the upside and if the market should falter, they get their money back.
I say some with good reason. The way the banks make their money on these instruments is if the market goes beyond the barrier. For instance, if the bank sets a barrier of 35% and the index goes up 50%, the bank keeps the difference. If you should be offered these instruments through a broker or financial adviser, their commission will be embedded in the CD as well.
Are they good for everyone? If you have money that will not be needed, then yes. If you are planning on tapping this account, then no. But these are a very conservative investment with exposure to the stock market. Like bonds, they can be laddered – which means purchased at different times to avoid all of the CDs maturing at the same time. If you happen to hit a nice bull market, then your investment will grow substantially but not as well as if you had been invested in the index itself. If you hit a bear market, you get your money back.
SHEFALI ANAND offers more on this topic from the WSJ
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