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CD Ladder: What It Is and How to Build One

CD Ladder: What It Is and How to Build One
Jen Smith
Updated January 13, 2022
4 Min Read

In recent years, high-yield savings accounts have been the darlings of the banking industry. They yielded returns that almost kept up with inflation without any of the risk of investing in the stock market.

But when rates dropped in 2020, the high APY’s these savings accounts were touting quickly dropped to less than half of what customers once enjoyed.

So what are account holders to do now? While saving in a high-yield savings account is still best for easy access to your liquid cash, if you want to maximize the growth of that cash without sacrificing the protection of FDIC or NCUA insurance, a CD ladder could be right for you. 

What is a CD?

A Certificate of Deposit, more commonly called a CD, is a product offered by banks and credit unions that provides a higher interest rate in exchange for the customer agreeing to leave their deposit untouched for a predetermined period of time. 

The end of that period of time is called the maturity date. CDs come in every length from one month to 10 years or more. The most common one and three year maturity periods and typically, the longer the maturity, the higher the interest rate.

CD’s were a popular banking product before high-yield savings accounts became well known because of their high interest rates. Up until the 2009 financial crises it was common to find CDs beating inflation and CDs in the early 1980’s were offering rates upward of 18%

Since 2009 CD rates have continued to drop to historic lows but still often beat out the APY you can get in a high-yield savings account.

What is a CD ladder?

A CD ladder is a savings strategy where you deposit cash in CDs with staggered maturity dates, every year reinvesting in a new long-term CD to take advantage of the highest rates available without tying up all your cash into one CD.

A CD ladder provides an opportunity to optimize money you don’t want tied up in a retirement account but don’t anticipate needing anytime soon. For frequent CD users it also decreases the risk of committing to a low CD rate if rates are about to rise.

How to build a CD ladder

CD ladders commonly start with shorter term CDs from six months to three years and reinvest into four to five year CDs which typically have the highest interest rates. So if you have $5,000 you want to put into your CD ladder you could start like this

  • $1,000 in a one-year CD
  • $1,000 in a two-year CD
  • $1,000 in a three-year CD
  • $1,000 in a four-year CD
  • $1,000 in a five-year CD

Everytime a CD matures you’d take that money and invest it in a five-year CD ensuring you have a CD that matures once a year.

Most banks only offer two or three options for a CD so you may have to open accounts at several banks when starting or choose to do it every time your latest CD matures. Opening at different banks allows you to take advantage of the highest rates available every year.

Benefits of a CD Ladder

CD ladders offer several benefits over keeping your cash in a traditional savings account. First is the better interest rates. As of July 2021, the highest yield savings accounts are currently offering around .50% APY while you can get up to .70% on a one-year CD or over 1% on four and five-year CDs.

You also get the opportunity to choose new CDs if rates are rising vs having all your money tied to a high-yield savings account that’s not keeping up with rising rates. Lastly, you get the protection and guarantee of FDIC or NCUA insurance that an investment account doesn’t provide.

Disadvantages of a CD Ladder

There are also some drawbacks to using a CD ladder. The biggest is that your money is tied up for up to a year at a time. If you need that money before it’s maturity date you’ll be charged an early withdrawal penalty. 

Interest rates are also at historic lows and haven’t risen in several years meaning it’s very unlikely money in a CD will ever keep up with inflation. So keeping a large sum in CDs wouldn’t be wise. 

Alternative CD ladder structures 

With interest rates at historic lows you could skip shorter-term CDs altogether, keep your money in a high-yield savings account and open a five-year CD every year until your first CD matures. 

You could also open a long-term CD every three to six months so you have more frequent maturity dates. If you deposited $500 in a five-year CD every three months for five years you’d have $10,000 saved. 

If you’re willing to take on more risk then you might want to consider investing in a taxable brokerage. Investments in a taxable brokerage miss out on the tax shelters of your retirement accounts but give you even more flexibility than a CD ladder would. The one disadvantage is that you’re subject to the volatility of the stock market. But you can mitigate your risk by investing in more conservative index funds like bond funds and large cap funds.

Are CD ladders a good investment?

CD ladders shouldn’t be considered an investment as they currently don’t keep up with inflation, so you’re guaranteed to lose money long-term. That said, if you have money you want to keep liquid but don’t want to invest, a CD ladder could be a good way to optimize it.

Before you start a CD ladder you should make sure you have an emergency fund in an account with no withdrawal restrictions. Keeping your emergency fund in a CD ladder may not be the best move because when an emergency happens you typically need most of that money in a short period of time.

With any portfolio, it’s good to have a mix of investments, regular savings, and higher-yield savings. Choose the mix that’s right for you and in the ratios you feel most comfortable with.

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