Certificates of Deposits are one of the safest investments you can make. However, one of the drawbacks of investing a large sum of money in a CD is that, if interest rates rise while you are in the midst of a long CD term, you will still be stuck with the lower interest rate. Also, if you need cash immediately, you won’t be able to liquidate your CD without paying heavy prepayment penalties. To get around these disadvantages, many savvy investors use a process called “laddering” of CDs.
This is how laddering works. Let’s say you have $6000 to invest. Instead of investing the whole $6,000 in one account, one thing you could do would be to divide your money into six increments of $1000 or whatever the CD minimum is. Then, every month, for the next six months, invest $1000 in a six-month CD. After six months, you will have a certificate of deposit that matures each month, which offers you the security of a CD investment, plus the flexibility to choose what to do with your investment on an ongoing basis. If you need money that month, you can cash out the CD that is maturing. You can also choose to roll it over into another six-month CD, or, if interest rates have improved since your last investment, you can cash out and find another CD with a higher interest rate. An added bonus is, with a six month CD, you will also be compounding interest every six months.
However, as a general rule, long term CDs usually have the best certificate of deposit rates, compared to short term CDs. Another way to ladder CDs is to buy several CDs at the same time, but with different maturity dates. For example, say you take your $6000 and with $1000 each, you buy a six month, one year, two year, three year, four year and five year CD. Every year, your CD will come to maturity, and you can roll it over and reinvest, even to a longer term CD if it happens to come due when interest rates are high. This way you will get the best CD rates without the long-term commitment.
