Types of CDs
These are any CD that has a set interest rate and a maturity date. They are not callable. Scottrade offers a wide selection of various rates and maturities ranging from two months to 10 years. The best rates available to Scottrade at any given time are shown in your account on www.scottrade.com under the Trade tab in the CDs & Bonds section.
These are previously owned non-callable CDs that someone has sold prior to the maturity date. They are being re-offered in the secondary market and are subject to market risk. They may be priced either more or less than the original cost of 100 cents on the dollar. The yield to maturity is the yield received when holding this CD to the maturity date. Many secondary CDs are sold as an 'All or None' offering and are offered on a limited basis.
A callable CD can be redeemed at par prior to its original stated maturity at the option of the issuer. The first call date will always be posted. Typically the bank will call a CD when interest rates have declined below the rate on your CD. This is because the bank can now issue new CDs at a lower rate of interest.
If your CD is called, you may not be able to reinvest your money at a comparable interest rate. In other words, the CD will be called if it makes financial sense for the issuer to do so.
On the other hand, if interest rates rise, the CD will not likely be called and the investor is locked in at this rate until maturity. To compensate the investor for this risk, callable CDs are usually issued with a higher coupon rate than Bullet CDs. If a CD is called, the customer will get back the principal at 100 cents on the dollar and all interest accrued up to the call date.
Callable investments are typically issued with longer maturities. The investor needs to understand that the timing of the return of principal may be uncertain due to the call feature and may, in fact, be at the maturity date. If it isn't called, the investor should be prepared to hold the investment until maturity.
Callable Step-Up CDs
Step-Up CDs do not pay a constant rate of interest; they have a predetermined schedule of coupon rates, which may begin below that of similar fixed-rate investments and gradually increase, or 'step up', over a specified time frame. The coupon may step up only once or as often as annually until the investment matures or is called. Typically, a Step-Up becomes callable on the first date that the coupon resets and is callable either semiannually or at any time thereafter. Primary Step-Ups are sold at par and most have final maturities of 15 years or fewer.
The weighted average of all of the scheduled coupon rates will be higher than the comparable Fixed-Rate CD. The investor's assessment of the likelihood that the investment will remain outstanding until at least some of the higher coupons have been received is the pivotal factor in deciding between a Step-Up and a Fixed Rated investment. Investors should understand that they may not receive all of the higher coupons scheduled to be paid in later years unless market rates increase over the life of the investment, thereby decreasing the chance that the issue will be called.
Zero Coupon CDs
These CDs are similar to zero coupon Treasuries or Treasury STRIPS. You buy them at a discount and they mature at full face value. The yield to maturity will be posted. Scottrade offers only non-callable Zeros. These types of CDs pay 'phantom interest'. This means that the IRS taxes interest each year based on the anticipated yearly rate of return/appreciation even though no interest is actually paid. This feature is identical to Treasury STRIPS and these provide an option for an IRA account where all taxes are deferred. For example, you could purchase a $100 zero coupon CD for $70, and at the maturity date, you would receive $100.