The Step-Up CD Conundrum: Is This “Growth” a Mirage?

The recent proliferation of step-up CDs has left many investors wondering if this new breed of certificate of deposit is a solution to low interest rates or simply a marketing ploy. At first glance, the promise of automatically increasing interest rates seems too good to be true. However, upon closer inspection, it appears that this “growth” may indeed be nothing more than an illusion.

Step-up CDs are not as new as they seem. Their popularity has been quietly building over the past few years, with some banks offering these accounts as an alternative to traditional CDs. But what sets them apart from their conventional counterparts? The most notable feature is the predetermined rate increases that kick in at set intervals. However, this convenience comes with a cost.

The composite APY on step-up CDs ranges from 0.10% to 0.35%, which is considerably lower than today’s best CD rates, hovering around 4% APY. This disparity raises an important question: what’s the point of a step-up CD if its rates are not competitive? The answer lies in the trade-offs. Step-up CDs come with the added risk of being callable, meaning that banks can close the account before it matures and refund your deposit and interest. A callable CD is most likely to be closed if market rates fall below what you’re earning on the account.

Bump-up CDs, a similar but distinct product, have been around for longer. They offer rate increases only if the issuing bank raises its available rates. This creates a scenario where investors must time the market to ensure they get the biggest increase possible. While bump-up CD rates tend to be more competitive than step-up CD rates, both types of CDs are difficult to find and often come with lower rates than traditional CDs.

In light of these findings, it’s clear that step-up CDs are not worth investing in for most people. Traditional CDs offer higher interest rates, while high-yield savings accounts (HYSAs) and money market accounts (MMAs) can provide even more competitive rates. For example, a $10,000 deposit would earn only $70 in interest in a 24-month step-up CD with a composite rate of 0.35% APY, whereas the same amount would earn $816 in interest in a traditional 24-month CD with 4% APY.

Another low-risk investment that outperforms step-up CDs is the Treasury bill (T-bill). With T-bills, the rate of return is guaranteed up-front, and you can choose terms ranging from four to 52 weeks. Rates on T-bills currently range from about 3.75% to 4.13%, depending on the term length.

Investors would do well to remember that the allure of step-up CDs is rooted in their promise, not their performance. In reality, these accounts are often little more than a marketing gimmick designed to attract investors with perceived benefits rather than actual value. It’s essential to carefully evaluate any investment opportunity and consider multiple options before making a decision.

The evidence suggests that step-up CDs are not worth the risk, and there are far more compelling alternatives available in the market. As investors, it’s crucial that we remain vigilant and critically examine the products being offered to us. By doing so, we can avoid falling prey to clever marketing tactics and make informed decisions about our investments.