Certificate of Deposit Laddering When CD Rates are Rising
The longer the term of the certificate of deposit, the higher the CD rates usually are, unless the yield curve is inverted, which can happen if short term inflation is very high.
When investors ladder their certificate of deposit accounts the end result is they evenly spread out their CD deposits over a period of several years and have all of their money deposited in longer term CDs paying higher rates.
Laddering certificate of deposit accounts (CDs) is a strategy used usually when CD rates are going higher. Deposit rates usually rise when the economy is strong, inflation is a concern and the Federal Reserve raises interest rates to prevent the economy from over heating
Here is an example of a CD ladder. We will use three year terms with a total deposit amount of $300,000.
Initially the investor deposits $100,000 in a 3 year CD, $100,000 in a 2 year CD and $100,000 in a 1 year CD. After the first year, the 1 year CD matures, the investor then invests the money in a 3 year CD. After the second year, the 2 year CD matures, the CD investor invests in another 3 year CD. After three years all the investors money is in 3 year CDs which have better rates than 1 or 2 year CDs and funds will become available once a year instead of once every 3 years.
The alternative to laddering in this example is to put the $300,00 into a 3 year CD. Which means you will not have access to any of that money for the next 3 years. Taking it out before the 3 year CD matures will result in loss of partial or all interest earned. You may also miss out on CD rates increasing during that 3 year period of time where as with a ladder you can open new 3 year CDs at higher rates.
There are CD calculators online you can use to help you figure out your return on investment by using a ladder.
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