Brokered CD questions

Submitted by BDizzleNizzle t3_yiam8u in personalfinance

I've been talking to my parents about considering adding CD ladder as they are getting older inside a brokerage account. I bought a CD inside my own Fidelity account just to kind of test it out and had a few questions if anyone has done this and could comment.

  1. The "value" of the asset is going to get worse and worse because Fidelity only shows the current resell value of the CD (as time goes on, fewer payments, so value will continue to drop and drop and report close to a -100% loss?)

  2. Kind of related to the above, the CD monthly payment goes into cash, so it should be reflected in the overall brokerage account % gain or loss?

  3. Is it worthwhile to do your CDs in an additional brokerage account to keep them separate from stocks and bonds so both are a bit more accurate on gains/losses? I feel like the slowly losing value and then suddenly getting the $1,000 back as cash (or a lot more given their retirement pool) will potentially spook them or something

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Ruminant t1_iuhql52 wrote

Yes, the drop in value is because interest rates have risen. To resell the brokered CD, you have to offer someone a better deal than they can get buying a new brokered CD with a similar maturity date. Effectively, you have to sell the CD at enough of a discount so that they "break even" as compared to new CDs with higher interest rates.

The closer the CD is to maturing, the less of an impact that interest rates will have on its resale value (the value reported by the brokerage). A one-percent difference in interest rates matters a lot more when there is a year of interest remaining versus just one month remaining. As such, the price of the brokered CD will not trend down to $0, but should instead gradually trend back towards its face value (how much it pays out at maturity).

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grokfinance t1_iui39vx wrote

Try explaining how a CD can lose value to a 90 year old grandparent. As long as you hold it until maturity the current value doesn't matter.

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Werewolfdad t1_iuho2yo wrote

> The “value” of the asset is going to get worse and worse because Fidelity only shows the current resell value of the CD (as time goes on, fewer payments, so value will continue to drop and drop and report close to a -100% loss?)

Yes and no. Brokered CDs are essentially bonds. As rates rise, the value of the bond will decline but as maturity approaches, the value will approach the face value of the bond

> Kind of related to the above, the CD monthly payment goes into cash, so it should be reflected in the overall brokerage account % gain or loss?

Doesn’t matter unless you sell before maturity.

> Is it worthwhile to do your CDs in an additional brokerage account to keep them separate from stocks and bonds so both are a bit more accurate on gains/losses? I feel like the slowly losing value and then suddenly getting the $1,000 back as cash (or a lot more given their retirement pool) will potentially spook them or something

They can be treated the same as a bond, as that is effectively what they are (albeit credit risk free)

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BDizzleNizzle OP t1_iuhphez wrote

>Yes and no. Brokered CDs are essentially bonds. As rates rise, the value of the bond will decline but as maturity approaches, the value will approach the face value of the bond

Oh, it's related to interest rates, not the number of remaining months left. So it's showing as down because it's a 3% rate but rates are higher so it's worth less in resale value?

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Werewolfdad t1_iuhqwk5 wrote

> So it’s showing as down because it’s a 3% rate but rates are higher so it’s worth less in resale value?

Correct (this is how all bonds are priced).

https://www.fidelity.com/learning-center/investment-products/fixed-income-bonds/bond-prices-rates-yields

At its most basic, bond prices go up when rates go down and bond prices go down when rates go up but prices approach 100 (ie par) the closer you are to maturity.

So say you had two bonds from the same issuer and same maturity. One has a 4% coupon and one has a 6% coupon. Prevailing rates at 5%. The first bond will sell at a discount while the second sells at a premium. The yield to maturity for both will be the same, however so it doesn’t matter which you buy.

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