A CD Ladder is an investment strategy designed to optimize availability and spread out the risk of getting a poor rate of return. It is achieved by breaking up your investment into smaller pieces and investing in a series of Certificates of Deposit (CDs).
If you want to save up $12,000 you would buy a new 1 year CD every month investing $1000 for a year and then renew them as they mature. The advantage of a CD ladder is that if you need the money one of the CDs will be maturing during any given month so you won’t have to pay a penalty or forfeit any interest. If you already have $12,000 to invest you could build a CD ladder by buying 12 CDs. Simply tell your banker that you want to put $1,000 each in a 1 month, 2 month, 3 month … and 12 month CD. As each one matures you roll it over into a 12 month CD and your ladder is built.
Why Cd’s
Why do we create a CD ladder instead of just sticking the money in a savings (or checking) account where the money is always available? Generally, a savings account doesn’t pay much in the way of interest and a checking account is even worse. During normal times a CD will pay considerably more. (The last few years has not been normal as interest rates have been forced abnormally low by the Federal Reserve.) So if you want to earn any interest on your money at all you will need to put it somewhere other than in an ordinary bank account. So by agreeing to tie up your money for a longer term the bank is willing to give you a slightly better rate of interest. So generally a 1 year CD pays more interest than a 1 month CD and a 5 year CD pays better than a 1 year CD and so on. At some point it doesn’t pay to increase the term unless you are absolutely sure you won’t need the money. But at that point you may be better off investing in Bonds or even Stocks.
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