Rising interest rates don’t always mean bad news. For savvy savers, they’re an opportunity to maximize the return on your savings, provided you’re willing to give up near-term flexibility.
From a CD to a CD ladder
One savings option is a certificate of deposit, or CD. This type of account usually offers a higher interest rate than a regular savings account because you leave the money in the account for an agreed-upon period of time. The end of this time frame is known as the maturity date.
The interest rate on a CD is typically fixed, which means it won’t change for the duration of the term. In this way, a CD not only preserves the money you put in but also nearly guarantees a positive return.
While a CD can be a solid addition to your overall savings strategy, there’s a drawback for some people. You don’t have immediate access to your money until maturity. If you withdraw early, you may be charged a penalty.
A “CD ladder” model could help you get the best of both — save over a long period of time and still have access to some funds along the way.
How a CD ladder works
With a CD ladder, rather than putting all your savings into one CD for a long time, you’d instead put your money into multiple, smaller CD investments at varying term lengths.
For example, if you want to invest $25,000 over five years, your CD ladder might look like this:
- $5,000 in a one-year CD
- $5,000 in a two-year CD
- $5,000 in a three-year CD
- $5,000 in a four-year CD
- $5,000 in a five-year CD
As each CD matures, you can withdraw all the money and the interest you made without penalty. If you don’t need the cash right away, you could also decide to renew the CD for another term and keep earning interest.
Regardless, with a CD in the ladder maturing each year (as in the example), you’d have access to some of your money at regular intervals (i.e., annually) versus waiting for all your money for several years or more.
This also means that with a CD ladder, it may be possible to grow your money during an economic downturn when interest rates often rise. If all your funds are locked away in one five-year CD, you may earn less than what’s possible. A CD ladder lets you reinvest as your funds mature, so you can potentially capture higher rates.
Steps to build your CD ladder
Make sure you understand the minimum deposit requirements and any early withdrawal penalties. If you want to try a CD ladder, but have any doubts or questions, you can always connect with a professional advisor. An expert can explain the ins and outs and help you map out the right strategy for your financial goals.