Advantages of Using CDs as Part of Your Fixed Income Portfolio

Transcript:

Kevin Grogan: In today's video, I wanted to spend a little bit of time talking about one specific aspect of how we manage individual bonds for our clients. And there's other certainly lots of different advantages, we believe, of owning individual bonds relative to owning a bond fund. I want to focus in on one specific area, which is the certificate of deposit or CD market and how that has evolved over the past two or three months.

How Has the CD Market Evolved Over the Past Few Months?

Kevin Grogan: And so, while CDs might seem kind of boring and it doesn't seem like there is much to talk about there, it's actually become pretty interesting here over the past two or three months. And so, on this slide that I've prepared, you can see that the yield advantage for CDs relative to Treasuries and how that has changed over the past few months. So, if you rewind the clock back to say mid-February, CDs didn't really provide much of a yield advantage relative to a comparable maturity Treasury. So, you can kind of just observe the slide. But looking at the five-year maturity, back in mid-February, CDs had a slightly higher yield than Treasuries by about 0.23%. If you look at where that moved to by mid-May, CDs were out yielding Treasuries by north of 1%, which is a pretty, pretty big gap between the additional advantage you would pick up in terms of yield relative for CDs, relative to Treasuries. And so now that yield advantage is north of 1%, and that's largely been driven by some of the issues we've seen in the banking sector. But from our perspective, as long as you stay under FDIC insurance limits, owning a CD versus a Treasury is pretty similar, at least from a credit risk perspective. Certainly, Treasuries are likely a little bit more liquid than CDs. But from a credit risk perspective, as long as you stay under FDIC insurance limits, we think owning a CD could provide a significant advantage relative to owning, say, a Treasury, given that the difference in yield now is north of 1%.

Why is this Advantage Unique to Owning Individual Bonds?

Kevin Grogan: And so, the reason this advantage is unique to owning individual bonds is that mutual funds really can't play in the CD marketplace because, again, FDIC insurance limits are what they are. And if you're running a mutual fund that has hundreds of millions or billions of dollars, you're not going to get very far investing $250,000 at a time in CDs. Well, while we're managing for individual clients and their individual portfolios, we can sometimes build out an entire fixed income portfolio that's exclusively CDs, again, depending upon the size and pick up that yield advantage.

An Effective Way to Build Out Customized Fixed Income Portfolios

Kevin Grogan: I'd say the other more nuanced thing that we can do is that we can buy different securities depending upon the client's specific circumstance and based on what's going on in markets at a certain point in time. So again, going back to the slide, rewinding back to mid-February, if we were buying, say, for the one year rung of a bond ladder, we likely wouldn’t really buy a CD back in mid-February because there wasn't much of a yield advantage, whereas now there is more of a yield advantage for the CD versus a Treasury. So, we can make those decisions again based both on the client-specific circumstance and based on what's going on in markets at that specific point in time. If you do have any questions on anything that I've covered today, please don't hesitate to reach out to your advisor or click the link in the description below.

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