What are callable CDs and how do they work?

Callable certificates of Deposits or CDs get their name from the fact that the authority to call back the deposit remains with the banks. With fluctuations in the current economy, callable CDs offer protection to banks from paying high interest rates to the account holders. For example, if an account holder purchases a CD at an interest rate of 5% and the interest rates fall to 3% in the next six months, then the banks will have to continue paying the high interest rates to the account holder. To prevent this loss, banks hold the authority to call back the CDs when the interest rates fall. The account holder will be receiving the principal amount along with the interest rates accumulated until the CD is called back.

When there is a dip in the interest rates, the bank calls the CDs and the amount is returned to the investor. Investor can either invest the amount in the market for the dropped lower interest rates, or hold in to the savings until the interest rates ascend again. But if the interest rates are higher than the current, then the investors are at a loss, because they will be receiving lower interest rates than the current market value. Investors do not have the authority to withdraw the CD whenever they want, if it is a callable CD. If the investor wishes to close the account, then the bank charges penalties for foreclosure of the investment.

Investors can protect their CDs by a process called call back protection. This prevents the banks from calling the CDs back when the interest rates fluctuate. Typically the protection period will range from six months to a year. If the interest rates drop during this time, the banks are bound to pay the interest rates at which the CD was purchased initially.

Callable CDs work best as a short term investment option, for the above mentioned reasons. If it is held for too long in the bank, the investor will not be able to make much money when the market is good and the interest rates are high. Having longer call back protection is advantageous since the CD will not be affected by fluctuations. Short term investment means that the amount earned can be reinvested without paying penalties, when the interest rates are good. Choosing a reputed financial institution to invest ensures that the savings are in good hands.