What it means
A certificate of deposit, or CD, is a deposit that a bank agrees to repay on a set date with interest. Most people know the retail version, but the wholesale version is traded between institutions in large amounts.
A Yankee CD is the wholesale version issued by a foreign bank through its American branch, and the name comes from the old nickname for Americans. Foreign banks use them to raise dollar funding without having to rely on the dollar deposits of their home country.
For the buyer, the appeal is a slightly higher yield than a comparable domestic bank CD, which compensates for the extra credit and country risk. Maturities are usually short, often from a few weeks up to a year.
Because the amounts are large and the investors are institutional, the quality of the issuing bank matters a great deal. The sums involved usually exceed any deposit insurance limit, so the buyer relies on the bank's financial strength and is exposed to its credit risk.
Corporate treasurers therefore apply credit limits per bank and review ratings regularly. Yankee CDs are usually negotiable, which means they can be sold to another investor before they mature.
Secondary trading depends on the market, though, and a CD sold early may fetch less than its face value plus accrued interest if rates have risen. A treasurer who may need the cash at short notice should match maturities to the date the cash is needed.
Interest on USD money market instruments is conventionally calculated on an actual/360 basis, which means the actual number of days elapsed divided by a 360-day year. This convention produces slightly more interest than a 365-day calculation at the same stated rate.
Treasury staff should check the convention in the term sheet before comparing offers.
In practice
Real-world examples.
Example
A technology company has $20,000,000 of surplus cash to hold for three months before an acquisition closes. The treasurer spreads the money across several banks, including a Yankee CD from a highly rated European bank's New York branch. The slightly higher rate adds a few thousand dollars of interest over the period.
Example
An asset manager running a money market fund buys Yankee CDs for part of its liquidity ladder. Each purchase is checked against a list of approved issuers and a limit per bank. The fund keeps the average maturity short to stay within its own rules.
Example
A manufacturer needs cash for payroll in 60 days and buys a 55-day Yankee CD so that it matures just before the payment date. The CD pays a little more interest than leaving the money in a current account. The plan depends on the issuer paying on time, so the finance director checks the bank's rating first. She also records the maturity date in the cash forecast so the money is ready when the payroll run is due.
Formula
Calculation
Interest = principal x annual rate x (days / 360)
Maturity value = principal + interest
Suppose a corporate treasurer buys a Yankee CD with a face value of $5,000,000 at 5.00% for 90 days. Interest = 5,000,000 x 0.05 x 90 / 360 = 5,000,000 x 0.05 x 0.25 = $62,500. Maturity value = 5,000,000 + 62,500 = $5,062,500. The treasurer would compare this with the return on a domestic bank CD of the same term before deciding whether the extra yield justifies the extra risk.Case study
Seen in the real world.
Larkspur Components is an illustrative, fictional manufacturer that holds $30,000,000 of operating cash. Its treasurer had always used domestic bank deposits, and was asked by the chief financial officer whether the company was leaving yield on the table.
She reviewed an approved list of banks and found that Yankee CDs from three highly rated foreign banks paid about 0.15 percentage points more than similar domestic CDs. On $10,000,000 for 90 days, that extra yield was worth about 10,000,000 x 0.0015 x 90 / 360 = $3,750.
The board accepted a limit of $10,000,000 per issuer and a maximum maturity of six months. The treasurer also agreed to report the holdings to the board each quarter, showing the issuer, the maturity, the rating and the extra yield earned. The illustrative lesson is that a small yield gain should always be weighed against the concentration and credit risk it brings.
Watch out
Common mistakes.
- Assuming a Yankee CD is covered by deposit insurance like a retail deposit, when the amounts involved are usually far above any insured limit.
- Chasing the highest rate without checking the issuing bank's credit rating and the company's own limit for that bank.
- Using a 365-day year when calculating interest, when money market convention for dollar instruments is normally 360 days.
Questions
People also ask.
What is a Yankee CD?
It is a certificate of deposit issued in the United States by the American branch of a foreign bank.
Why do Yankee CDs usually pay more than domestic CDs?
Buyers demand a small premium for the extra credit, country and liquidity risk of a foreign issuer.
Can a Yankee CD be sold before maturity?
Many are negotiable and can be sold in the secondary market, but the price depends on current interest rates and demand.
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