How can one benefit from a CD ladder?

A collection of Certificate of Deposits (CD’s) bought at frequent intervals to ensure that they mature at frequent or regular intervals is called a CD ladder.  For instance if one wishes to create a very basic CD ladder out of a six-month CD, then all one does is purchase one CD on the first of every month and continue to do so for the next six months.  Then the first CD that was bought will mature on the 1st of the 7th month and on maturity this CD amount can be withdrawn.  Then one has the option to either invest the whole amount in another CD or utilize the returns and reinvest the principal amount or keep the returns as well as the principal amount and utilize it for something else.  From then on, one CD will mature every month and the same process will continue.

This way one could utilize the money and still be assured that in case of unforeseen expenses one will have the funds at least in a month’s time.  This is a wise option as investing in CD offer a higher rate of interest than a savings account.  This way the funds are locked in and the temptation to spend is absent.

When one opts for the CD ladder strategy it does not mean just purchasing a single CD for a certain period of time.  But the ladder is created in such a way so that the CD matures at different time periods.  When short-term and long-term CD’s are purchased the risk of the interest rates are distributed.  By doing this one could take advantage of the situation in the financial market in case there is rise in interest rates.

For instance, if one can deposit $100,000 over a 5-year term, then this is how the CD ladder will work:

  • 20,000 first year CD
  • 20,000 second year CD
  • 20,000 third year CD
  • 20,000 fourth year CD
  • 20,000 fifth year CD

This way the CD ladder keeps the money locked in for different periods of maturity thereby taking advantage of changing interest rates.  As the CD reaches maturity one can purchase another CD for a five year term and lock in the best rate of interest.  This way one could always access funds each year as one CD matures, and still be assured of the best returns.  This is a good way to beat the change in interest rates too.

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