What is the difference between fixed and variable CD rates?
Certificate of deposit is a financial tool that facilitates the consumers to lock a high value of money for a predetermined time period with a financial institute in return for higher rates of interests than that usually granted for checking and savings accounts. This certificate of deposits can be of two types- Fixed and variable certificate of deposits. While in fixed certificates of deposits the interest rate offered on the fund value remains fixed, in variable certificate of deposits the interest rates vary throughout the term of the deposit.
Difference between the two:
- In fixed rate Certificates of deposits the interest rates remain fixed irrespective of the amount deposited in the account and the length of the period for which the funds have been locked in. In variable certificates of deposit the interest rates vary throughout the term period.
- In fixed rate certificates of deposits the investor is assured of the amount of growth that he can expect at the end of the term for deposit. In case of variable certificates of deposits the interest rates vary so the investor cannot remain assured of the amount of growth he can expect at the end.
- In fixed rate certificates of deposits the interest rates are not linked to the changing interest rates in the market. In variable certificate of deposits the interest rates are linked to the fluctuating market interest rate and this is why it keeps on changing.
- Fixed certificate of deposits are secured as at the end of the term, the investor remains assured of a fixed growth of his money. On the other hand, variable certificate of deposits are a little risky. If the markets interest rates decrease then so will the interest rates offered on the variable certificate of deposit, this might lead to little or no accumulation of interest and therefore a financial loss for the investor.
- The FDIC law has attached a “call feature” with a number of variable certificates of deposits which have been locked for a longer period of time. This feature gives the issuing bank the right to close a variable certificate of deposit before the term ends. This decision is mainly based on the direction of the market interest rates. If the bank benefits then it allows the variable certificate of deposit to complete its full term. In case the market interest rates decrease then to avoid huge losses, the bank uses the call feature.