What is a Certificate of Deposit?

A certificate of deposit is a term bank deposit with a fixed duration and stated interest rate. A CD is essentially a promissory note issued by a bank. A certificate of deposit normally pays a fixed interest rate upon maturity, though some variable-rate versions are available. A more restrictive CD may require an early-withdrawal penalty.

There is a perception that CDs are more secure than commercial paper, since CDs are issued by banks, which are more closely regulated than companies. There is a capped amount of Federal Deposit Insurance Corporation (FDIC) insurance coverage of this investment.

Advantages of a Certificate of Deposit

One advantage of a certificate of deposit is that you can use it to lock in a fixed interest rate for the duration of the instrument. Another advantage is that some or all of the amount of the investment is covered by FDIC insurance, thereby reducing the risk of bank failure.