Indexed bank CDs and variable-rate CDs
A certificate of deposit (CD) is a time deposit issued by a bank or credit union that pays a specified rate of interest for a set period of time. The majority of CDs are of the fixed-rate variety, which pay a constant rate of interest for the lifetime of the CD. If market interest rates increase or decrease before the maturity date of the CD, the interest rate on a fixed-rate CD will remain the same.
But not all CDs are fixed-rate. Indexed CDs are certificates of deposit with rates determined by changes in an underlying index, common benchmark or even the fluctuation of a foreign currency. Examples of indexed CDs, which are also called variable-rate CDs, include stock market CDs, inflation-linked CDs, prime rate-linked CDs and foreign currency-linked CDs.
Banks also offer hybrid CDs that are similar to indexed CDs, but with some important differences. CDs that pay progressively higher interest rates (step-rate CDs) and CDs that give investors a limited option to increase their CD rate (bump-up CDs) are available at some banks. If you own a step-rate CD, you can compute your blended rate over the lifetime of the CD and compare it directly to the rate on a fixed CD. This is different than indexed CDs and bump-up CDs, with which you have to wait to see what your return will be.
Banks can be very creative in how they market indexed CDs. Commonly marketed indexed CDs include those with rates that are tied to the S&P 500 Index, the prime rate in the United States, rates on Series EE Savings Bonds, yields on Treasury bills, the performance of the Chinese stock market index and even the annual increase in the cost of college tuition. Indexed CDs will often feature a partial participation rate on the upside potential of the benchmark, as well as capping the downside if the benchmark decreases.
To learn more on CDs, including current rates and terms, please see the MoneyRates.com CD rates page.