What is a brokered CD and should you buy one?

A brokered CD is bought through a brokerage firm rather than a bank. It offers most of the benefits of a traditional CD, plus longer terms and higher interest earnings.

At the same time, brokered CDs come with greater risks — including that you could lose money on your investment.

CNBC Select explains how a brokered CD works, its advantages and drawbacks and how to tell if it's right for you.

Brokered CDs are issued by banks and sold in bulk to investment firms and brokerages, where they become available to investors for purchase. By doing this, the broker brings a lot of money to the bank, which often results in higher APYs than you can get with a traditional CD.

To buy a brokered CD, you'll need a brokerage account and a minimum investment amount, typically, $1,000. If you're buying a new-issue CD, there are usually no upfront costs. If you're buying other people's CDs being brokered on the secondary market, your broker might charge you a fee.

You can buy CDs from different banks and consolidate them into a single brokerage account. This can be helpful if you have a large amount to invest and would like to manage all of your CDs in one place. FDIC limits federal insurance to $250,000 per customer at an insured bank. Since your brokerage account can hold CDs from multiple banks, you can protect amounts beyond a single bank's FDIC limit.

When buying a brokered CD, check whether it's callable. Banks often offer higher yields on these CDs, but, the bank may end it before it reaches maturity. For example, this might happen if interest rates are falling. In this case, you'll get your initial deposit back, as well as any interest you'll have earned — but you won't get the full return you've been expecting.

After you purchase a brokered CD, you can sell it. That can be risky, however, as a CD can lose value, especially in a rising-rate environment. When interest rates on new CDs are going up, you might face less demand for CDs you purchased at a lower APY. If you need cash quickly, you might have to sell the brockered CDs for less than their face value. Plus, you'll likely pay sales fees for trading your CD.

Brokered CDs and traditional CDs both earn fixed interest, come with specific maturity dates and are FDIC-insured However, there are several key differences.

• Terms: A traditional bank CD matures anwhere from three months to five years. A brokered CD can offer much more flexibility, with terms ranging from a month to 20 years.
  
• Interest: A bank CD accrues compound interest and pays all of it at the maturity date. Brokered CDs don't compound interest. Some send interest payments at regular intervals — monthly or twice a year — and others pay in full at maturity. If you want to earn on your yield, you'll have to reinvest the interest yourself.
  
• Early withdrawal: If you withdraw money from a bank CD early, you'll pay a penalty equal to a number of months of interest. With a brokered CD, selling the CD may only come with a small charge.
  
• Risk: With fixed rates, set terms and guaranteed returns, traditional CDs are among the safest savings products on the market. If interest rates are rising, you might lose money on a brokered CD that you need to sell before the maturity date.

Before you commit to investing in brokered CDs, consider their benefits and disadvantages.

Pros

• Greater liquidity. Being able to sell the CD on the secondary market means you can access cash early without penalties.
• Longer terms. Brokered CDs have terms of up to 20, or even 30 years.
• Higher returns. In general, brokered CDs earn higher APYs than bank CDs. However, this might not always be the case. Like with any financial product, it pays to shop around.

Cons

• Greater risk.
• Can be called.
• No compound interest. If you want to earn more interest, you'll have to reinvest it in another account.

Bokered CDs can make sense if you're looking for more flexibility than a traditional CD, like longer term lengths and penalty-free withdrawals.

A brokered CD may also be a good choice if you're looking to invest more than $250,000 into CDs. You can open multiple accounts through one brokerage and have all the money covered by the FDIC.

On the other hand, if you want something simpler and predictable, stick with a traditional CD. Brokered CDs can more complex and, if you you sell at the wrong time or the bank calls the CD, a lot riskier.