Bank CDs by Auction: Name Your Own Yield

An ad for CD auctions by Zions Direct caught my eyes. I’ve been buying Treasury Bills and TIPS notes at auction through Fidelity for quite a while. I’ve also bought CDs through brokerage firms before. But I’ve never heard of bank CDs sold by auction. So I decided to take a look.

The auctions are conducted by Zions Direct, a brokerage subsidiary of Zions Bancorporation which also owns Zions First National Bank in Utah and a few other banks. It’s a reputable dealer. From the CD auctions section on Zions Direct:

For the first time, you have the chance to bid on price or yield for Certificates of Deposit – through online CD Auctions from Zions Direct.

Our Auctions give individuals direct access to the investment market in a way that’s previously been available only to large financial institutions.

Zions Direct is the first and only brokerage to offer CD Auctions to individual investors. And, we’ll be adding more securities auctions in the future.

The auction process is somewhat different from Treasury auctions because:

  • You are entering competitive bids. You can’t tag along with non-competitive bids like you do in Treasury auctions.
  • The bids are open. You can see what the market clearing yield is before you enter your bid. Bids in Treasury auctions are sealed.
  • The auction closing time auto-extends for 2 minutes, up to 15 minutes, if there is a higher bid in the last 2 minutes. Treasury auctions close at a preset time.

This looks like the first auction ever by Zions Direct, and perhaps the first CD auction open to individual investors in the U.S. I’m excited to witness and write about this historical event. The size of the offer was pretty small: $2 million 6-month CDs with a 5.25% coupon, in $1,000 increments, issued by Zions First National Bank. As an individual bidder, I was given a bidding limit of $20,000.

My strategy is similar to sniping on eBay: wait until close to auction end time and then enter the bid. The auction automatically extends if there is a last minute bid but because the bidders get to see the market clearing yield before they enter a bid, there is no point of revealing your hands early, unless you just want to enter your maximum bid and go away. You hope if you entered a last minute bid and others weren’t paying attention, you would be able to snatch up some CDs at good yields. So goes the theory anyway.

I used the equivalent yield on 6-month Treasury Bills as my bottom line yield. Because I’m subject to the AMT, I’m a non-itemizer. The formula is:

CD APY >= Treasury Yield * (1 – Federal Tax Bracket) / (1 – Federal Tax Bracket – State Tax Bracket)

How did it go? The first auction ended on Feb. 28, 2007 at 12:01 p.m. EST. The auction received 104 bids from 62 bidders. The final yield ended at 5.35%. That yield is not necessary the best you can find but it’s among the top in the country. For example the #1 listed 6-month CD at today is 5.40% APY. 5.35% APY from this auction would place it as #3 on the list.

A close examination of the detailed results reveals that the rate was set by a few large institutional bidders. An individual bidder is allowed to bid for no more than $20k, or 20 CDs. Institutional bidders are allowed to bid for much more. Four large bidders bidded for a total of 2,800 CDs at 5.35%. Because there were only 2,000 CDs up for auction, their bids ensured that the final yield would not go higher than 5.35%. If those large institutional bidders weren’t bidding, the final yield would’ve been much higher.

When I looked at the auction status close to auction end time, the yield was already lower than my floor threshold. So I didn’t enter a bid. If someone lives in a state without state income tax, it may be worthwhile because the CD yield is still higher than Treasury Bills of the same maturity. Or if large bidders didn’t participate in an auction, if they bidded for fewer CDs, or if they bidded at a lower price, there would be chance to get a higher yield. I will keep an eye on future auctions opportunistically.

There are a few more auctions coming up next week. If you are interested, take a look at the details on the auction calendar at Zions Direct.

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