Negotiable CDs (NCDs): Definition, Features & Investment

A negotiable certificate of deposit (NCD) refers to a certificate of deposit with a minimum par value of $100,000, although typically, NCDs will carry a much higher face value. They are also known as jumbo CDs.

NCDs are guaranteed by a bank and can be traded in a highly-liquid secondary market. However, they cannot be redeemed before maturity. Because NCDs are so large, they are usually purchased by institutions and wealthy individual investors.

Understanding Certificate of Deposits

A certificate of deposit (CD) refers to a product extended by banks, credit unionsCredit UnionA credit union is a type of financial organization that is owned and governed by its members. Credit unions provide members with a variety of financial services, including checking and savings accounts and loans. They are non-profit organizations that aim to provide high-quality financial services, and other financial lenders to provide a specified interest rate to investors who leave a lump-sum deposit that cannot be withdrawn for a certain period of time.

Virtually all financial institutions offer CD products with varying interest rates and time lengths. CDs can be considered a much safer investment alternative than bonds, stocks, real estateReal EstateReal estate is real property that consists of land and improvements, which include buildings, fixtures, roads, structures, and utility systems. Property rights give a title of ownership to the land, improvements, and natural resources such as minerals, plants, animals, water, etc., and other asset classes due to the predetermined interest rate that removes the volatility of returns.

Opening a CD is much like opening a standard bank account. The main difference is that a CD will lock in the following aspects:

1. The interest rate: The specified interest rate is locked in
2. The maturity term: The length of time that the funds are deposited are locked in
3. The principal: The amount specified to be locked in cannot be changed

Advantages of Certificates of Deposit

• Certificates of deposits generally offer a higher interest rate than a savings accountSavings AccountA savings account is a typical account at a bank or a credit union that allows an individual to deposit, secure, or withdraw money when the need arises. A savings account usually pays some interest on deposits, although the rate is quite low. or money-market fund.
• There are very little risk and volatility associated with the return.
• For most financial institutions, it is guaranteed by the federal government.

Disadvantages of Certificates of Deposit

• A certificate of deposit cannot be liquidated before maturity without a penalty, and therefore, is very inflexible.
• CDs generally earn a lower return than other asset classes.
• The return is fixed and can perform relatively worse than other investments in a time period of rising interest rates.

Features of NCDs

Negotiable certificates of deposit usually come with short-term maturities, ranging from a few weeks to one year. Interest is paid either twice a year or at maturity. The interest rates are negotiable, and the yield is correlated with money market conditions.

NCDs are similar to regular CDs, but the main differences are:

1. Large face value
2. Negotiable aspect

In terms of face value, NCDs are more valuable than regular CDs. Although regular CDs can be on varying amounts of funds for regular retail investors, NCDs carry a face value of at least $100,000 and are usually much larger.

Because of the fact, NCDs are not a product purchased by retail investors. Instead, they are used by large institutions and high net-worth individualsHigh Net Worth Individual (HNWI)A high net worth individual (HNWI) refers to an individual with a net worth of a minimum of $1,000,000 in highly liquid assets, such as cash and cash as a cash management tool to make sure that cash use is being optimized.

NCD terms are much more negotiable than regular CDs. Generally, a regular retail investor has very little bargaining power when negotiating the terms of a CD. So, the terms of CDs are more dependent on market conditions and financial institutions.

However, large institutional investors and high net-worth individuals have much more bargaining power and can negotiate the terms more broadly with banks and financial institutions.

Advantages of NCDs

1. Low risk (and FDIC-insured)

NCDs are a favored investment product due to their low risk. In addition, NCDs are insured by the Federal Deposit Insurance Corporation (FDIC)Federal Deposit Insurance Corporation (FDIC)The Federal Deposit Insurance Corporation (FDIC) is a government institution that provides deposit insurance against bank failure. The body was created in the U.S. The FDIC insures NCDs up to $250,000 per depositor in each bank.

2. More liquid

NCDs are much more liquid than regular CDs. A regular CD cannot be traded on a secondary market, and therefore, the funds are locked in unless an investor is willing to pay a penalty. However, NCDs have a highly liquid secondary market where an NCD holder can sell their NCD if they require liquidity.

NCDs generally offer a return for investors at a higher rate than Treasury bonds. Typically, the yield is higher as well.

Disadvantages of NCDs

1. Riskier than Treasury bills

NCDs are generally riskier than Treasury bills. It is due to the fact that the probability of a specific bank or financial institution defaulting is larger than the probability of default for the U.S government.

2. Can be callable in some cases

Most NCDs do not feature a call option, meaning that the financial institution that offers them cannot recall the certificate and pay back the funds early. However, some financial institutions do offer callable NCDs, which is a large risk for investors in a period of low interest rates. The financial institution can “call” the NCD and pay a much lower prevailing market interest rate to future lenders/investors.

Other Resources

CFI offers the Commercial Banking & Credit Analyst (CBCA)™Program Page - CBCAGet CFI's CBCA™ certification and become a Commercial Banking & Credit Analyst. Enroll and advance your career with our certification programs and courses. certification program for those looking to take their careers to the next level. To keep learning and developing your knowledge base, please explore the additional relevant resources below:

• Callable Certificate of DepositCallable Certificate of DepositA Callable Certificate of Deposit is an FDIC-insured time deposit with a bank or other financial institutions. Callable CDs can be redeemed by the issuer before their actual maturity date, within a specified time frame and call price.
• Par ValuePar ValuePar Value is the nominal or face value of a bond, or stock, or coupon as indicated on a bond or stock certificate. It is a static value
• Secondary MarketSecondary MarketThe secondary market is where investors buy and sell securities from other investors. Examples: New York Stock Exchange (NYSE), London Stock Exchange (LSE).
• Treasury Bills (T-Bills)Treasury Bills (T-Bills)Treasury Bills (or T-Bills for short) are a short-term financial instrument issued by the US Treasury with maturity periods from a few days up to 52 weeks.