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How a CD laddering strategy can boost your cash flow

For conservative investors who need a little cash flow bump, a CD laddering strategy can very helpful.

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If you're somewhat of a conservative investor, particularly if you've depleted a significant portion of your emergency savings during the pandemic, you may be searching for new investing options that offer low risk yet can yield some gains. One option to consider is CD laddering

"You have two things working for you with CD laddering: the money you invest is insured by the FDIC (up to $250,000 per person), and [you're] also guaranteed earnings," says Anthony Martin, CEO and founder of Choice Mutual in Reno, Nevada.

For those with a low-risk tolerance, Martin says CD laddering is a viable option because:

  • Each CD in your CD ladder will allow you to lock in the interest rates that you're guaranteed to earn. 
  • This guaranteed growth to your savings makes CD laddering more conservative investing option because it's less likely to lose your money (as opposed to investing in stocks).

But it's also important to remember that low-risk investments also mean lower returns. Here's what you need to know about how to incorporate CD laddering into your 2022 financial plan to keep your cash flow strong.

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What is CD laddering?

You likely have certificates of deposits, or CDs, in your portfolio. They are easy to purchase and offer a reliable savings strategy with low risk. But with some careful planning, you can get even more out of these accounts. 

"CD laddering is staggering the maturity dates of CDs to provide you with a consistent cash flow," explains Jim Pendergast, senior VP of altLINE, a division of The Southern Bank Company located in Birmingham, Alabama.

Maturity dates on CDs typically range from one to five years, Pendergast says, but he warns retrieving any of the money early could cost you a penalty. "Instead of putting a lump sum into a CD, create multiple CDs with varying maturity dates," he says.

For example, put $1,000 in a 1-year CD with a 1% APY, $1,000 in a 2-year CD with 1.25% APY, and another $1,000 in a 3-year CD with a 1.5% APY.

"You can cash out every year or leave the cash in the CD for its next maturity date," Pendergast says. "CD laddering works best with people who put money in every year and perfectly time withdrawal times. It's great if you have consistent money coming in as it provides you with a way to stay on a consistent budget while still earning money."

And staggering the maturity dates, can also help you boost your cash flow, says Martin.

Let's say you create a CD ladder with $20,000 you saved up. You put $5,000 in a three-month CD, $5,000 in a six-month CD, $5,000 in a nine-month CD and $5,000 in a 12-month CD.

When you cash out the three-month CD, you can plan to spend the interest you earned and move the principal to a new CD. Repeat this every time you have a CD that comes to maturity.

"You can reinvest any money you don't need in long-term CDs, which will help you earn a higher interest rate than you did initially," Martin explains

How your timing plays a role in CD laddering

When you invest in several CDs at the same time, you have the ability to set your own maturity dates, says Martin.

"Instead of investing all of your $20,000 into one CD, you can invest it into five different CDs, [each] with their own term date," Martin says. This allows you to access your money more frequently — like every six months or every year — and still take advantage of higher APYs since the longer you can leave the CD in for the more interest you can earn."

Martin provides two considerations about how to stagger or ladder your CDs based on your financial situation: 

  1. If you can do without the money, you can extend the maturity time frame and opt for a higher interest rate to earn more money. 
  2. If you require the money to supplement your income, you may prefer shorter terms and compromise on lower interest rates.

How CD laddering differs from keeping your money in a traditional savings account

There are some differences between traditional saving accounts and laddering CDs. For one thing, you lock in your APY for a specified length of time, like a year or two. With a traditional savings account (even a high-yield one), your APY can go up and down with no warning. 

"Money placed in your savings account loses value over time as inflation lowers the worth of the dollar," notes Pendergast. "However, by investing in a CD, you can keep earning interest on your money consistently. Though it may not seem like much in the way of interest, the value never decreases, which makes it a safer bet than other investments."

What happens if you need to break a CD?

Before you open your CD, make sure you understand how your earnings will be impacted by any penalty fees. Ask your bank, credit union or financial institution before you lock in your money. 

When shopping for CDs, Pendergast advises looking for low liquidation fees. "If you're in a pinch and need money immediately, you need a CD that doesn't require a high early withdrawal fee," he says. 

 Some fees are as little as 60-days' interest, while others as much as 18 months' simple interest, he says.

"Early withdrawal can cost you all the money you've earned if you're not careful, so choose a bank with a low early withdrawal fee," Pendergast explains.

Want more info on CDs? Check out Select's round-up of the best CDs. Looking for an investment strategy that offers higher returns? Check out our round-up of the best investing apps.

Catch up on Select's in-depth coverage of personal financetech and toolswellness and more, and follow us on FacebookInstagram and Twitter to stay up to date.

Editorial Note: Opinions, analyses, reviews or recommendations expressed in this article are those of the Select editorial staff’s alone, and have not been reviewed, approved or otherwise endorsed by any third party.
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