What is the advantage of a certificate of deposit CD laddering strategy as opposed to depositing the same amount of money in a single CD?
Advantages Explained
Benefits to CD ladders
It has a higher interest rate than most traditional savings accounts. It is a safe investment, as it is insured by the Federal Deposit Insurance Corporation (FDIC). It provides a steady, predictable income stream, reducing risk by spreading your investments over several CDs (and banks).
Compared to savings accounts or money market accounts, CDs potentially can offer higher interest rates on deposits. That's because you agree to keep your money in the CD for a set time period. The interest rate and APY you earn depends on the bank, the CD term and the current interest rate environment.
A CD ladder involves opening CDs of different term lengths and regularly renewing short-term CDs for longer terms. This tactic lets you benefit from long-term CDs' higher rates and short-term CDs' frequent access to funds.
CD ladders have the benefits of higher interest rates that come with long-term CDs while also having access to cash. Each CD, which are the “steps” that are integral to a CD ladder, is a fixed deposit that earns interest over a specific period.
If you put $20,000 into a 3-year CD with an interest rate of 4.85%, you'd earn a total of $3,053.42 in interest at the end of the three years. And, your principal — which is the initial $20,000 you deposit — will be safe. The NCUA and the FDIC insure CDs at up to $250,000 per depositor, per account.
Inflation erodes the purchasing power of your money over time, and if your CD's interest rate isn't keeping up with inflation, you're essentially losing money. For example, if your CD earns a 2% annualized return but inflation is running at 3%, you're actually losing 1% of your purchasing power every year.
- No Liquidity. CDs require you to deposit your money for a certain amount of time, with the expectation you don't withdraw any of it until the maturity date. ...
- Early Withdrawal Penalty. ...
- Lower Earning Ability.
One major drawback of a CD is that account holders can't easily access their money if an unanticipated need arises. They typically have to pay a penalty for early withdrawals, which can eat up interest and can even result in the loss of principal.
The cons of CDs
With a savings account, the money is easily accessible in case of a financial emergency or a change in spending priorities. With CDs, you typically can't withdraw the money whenever you want—at least not without paying a penalty.
What is certificate laddering?
A certificate ladder (or CD ladder, at a bank) is a savings strategy where you invest in several certificates with staggered maturities to take advantage of higher rates on longer-term certificates, while still keeping some of your funds accessible in the near term.
| Type of 1-year CD | Typical APY | Interest on $100,000 after 1 year |
|---|---|---|
| CDs that pay competitive rates | 5.30% | $5,300 |
| CDs that pay the national average | 1.59% | $1,590 |
| CDs from big brick-and-mortar banks | 0.03% | $30 |
CD laddering is a strategy that can give you quicker access to your funds. Instead of locking your money away in one CD for, say, five years, you divide that money into multiple CDs, each with a slightly shorter term. As each CD matures, you can either pull that money out or roll it into a longer-term CD.
A CD ladder can make an excellent investment option that provides a steady flow of savings over time. It can give you the ability to always take advantage of strong rates as they come up in the market instead of missing out on waiting for all of your money to mature in a single CD.
CDs—certificates of deposit—provide holders with taxable interest income. They are fixed-income investments issued by banks and pay interest at a stated rate for a specific time period. CD interest is taxed at the rates applicable to ordinary income, up to 37% at the top federal tax bracket rate for 2023.
- Bread Savings Certificate of Deposit: 4.15% to 5.35%
- CommunityWide Federal Credit Union CW Certificate Account: 4.00% to 5.50%
- Marcus by Goldman Sachs High-Yield Certificates of Deposit: 4.00% to 5.15%
- EverBank Basic CD: 3.85% to 5.25%
- Quontic Bank Certificate of Deposit: 4.30% to 5.30%
You can get 6% on a CD by becoming a member of a credit union offering a certificate with this rate.
A certificate of deposit is a safe and secure way to earn interest. And, putting $15,000 into a 2-year CD with a rate of 5.25% would net you more than $1,600 in interest by the end of the term, and you don't have to worry about losing your principal.
The national average rate for one-year CD rates will be at 1.15 percent APY by the end of 2024, McBride forecasts, while predicting top-yielding one-year CDs to pay a significantly higher rate of 4.25 percent APY at that time.
Yes, CDs are generally still safe even if a stock market crash occurs. CDs are a type of bank account.
Can you lose principal on a CD?
Earning high interest means nothing if you have to forfeit it or your principal to access your money. A high-yield savings account or money market account would be better for your money. In sum, yes, you can lose money on a CD. But as long as you don't withdraw too early, you'll be left with at least your principal.
Cons of brokered CDs
You could potentially lose money by selling too soon and for less than face value. Keeping the CD until its maturity date, however, can reduce the risk of losing money on it.
But, in the meantime, you can rest assured that your CD's funds are safe if you've opened an account with a bank insured by the Federal Deposit Insurance Corporation (FDIC). Even in the unlikely case of a bank failure, the government will protect deposits up to $250,000.
The FDIC Covers CDs in the Event of Bank Failure
CDs are treated by the FDIC like other bank accounts and will be insured up to $250,000 if the bank is a member of the agency. If you have multiple CDs across different member banks, each will be protected up to that limit.
| Top Nationwide Rate (APY) | Total Earnings | |
|---|---|---|
| 1 year | 6.18% | $ 618 |
| 18 months | 5.80% | $ 887 |
| 2 year | 5.60% | $ 1,151 |
| 3 year | 5.50% | $ 1,742 |
