Are Money Market CDs Insured by the FDIC?

As a conservative saver, protecting your cash principal against losses is typically your first priority. From there, you may explore possibilities for earning interest on that cash. Federal Deposit Insurance Corp. (FDIC) insured certificates of deposit (CDs) are cash management products that provide for principal protection, while also paying interest. Understand the limitations of FDIC insurance before coordinating your cash management strategy.

Misconceptions

• Money market deposit accounts and CDs offered by banks are separate and distinct from money market securities and funds. The FDIC insures bank and money market deposit accounts and CDs. FDIC coverage, however, does not apply to money market securities and mutual funds that are bought through brokerage firms.

Identification

• As of 2010, the FDIC guarantees $250,000 worth of deposits, per customer, per bank. In addition to certificates of deposit, the FDIC defines bank deposits as checking, savings and money market deposit accounts. As a larger saver, you will divide a lump sum of cash among several different banks to maximize your FDIC coverage. For example, you would split $700,000 into seven different CDs at seven different banks to insure the whole amount. Putting the $700,000 into one CD would leave $450,000 of the deposit uninsured.

Features

• Basic risk vs. reward principles indicate that you must take on increased levels of risk for higher potential returns. Because CDs are guaranteed by FDIC insurance, you can expect to earn minimal returns compared to other assets, such as stocks and bonds. For higher interest payments on FDIC-insured CDs, you can take out CDs with longer maturity dates. For example, you can expect to secure a higher interest rate on a one-year CD than on a one-month CD.

Warning

• CDs are susceptible to both inflation and interest rate risks. Inflation erodes the purchasing power of your cash over time, as prices for goods and services increase. In terms of fixed income assets, interest rate risks describe an economic environment where interest rates are on the rise. For example, you may take out a five-year CD that effectively locks you into a 3 percent interest rate for the next five years. If interest rates rise over the course of one year, new five-year CDs could then offer 6 percent interest rates. Your old CD returns at 3 percent then become even less attractive.

Strategy

• You may implement CD laddering as means to counter interest rate risks and preserve liquidity. With CD laddering, you may take out three CDs that mature in one month, one year and three years. If interest rates fall, the three-year CD keeps you locked into a good rate. If interest rates rise, you can continually reinvest your one-month CD into new CDs that take advantage of the higher rates.