CD ladder vs. bond ladder: Which strategy is best for maximizing interest?
CD ladder vs. bond ladder: Which strategy is best for maximizing interest?.
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If you're looking for a relatively safe and steady way to grow your cash, consider a CD or bond ladder. These two strategies are designed to manage interest rate risk and provide periodic access to your cash.
But which option is better for your goals? Learn what CD ladders and bond ladders are, the key differences between them, and how to decide which one you should choose.
A CD ladder is a strategy in which you spread your money across multiple certificates of deposit (CDs) with staggered maturity dates. As each CD matures, you get access to a portion of your cash over time instead of waiting for a singular maturity date to access all of your funds at once.
This strategy can help mitigate risk by giving you the recurring opportunity to either renew individual CDs or withdraw your cash. It also lets you take advantage of whichever CD term is offering the best interest rate.
Imagine you have $40,000 you want to deposit into CDs. The bank's 1-year CD rates are the highest, but you don't want to lock up all your money for that long to get the best rate. So, you set up a CD ladder, putting $10,000 into four different accounts with terms ranging from three months to one year.
When each CD matures , you can either renew it, choose a different term, or withdraw the cash and put it elsewhere.
Read more: Understanding CD renewal: Should you roll over a maturing CD?
Before setting up a CD ladder, consider these pros and cons:
Regular access to cash: With CDs maturing at regular intervals, you have frequent opportunities to withdraw cash penalty-free, if needed.
Regular renewal opportunities: When CDs in your ladder mature, you have the chance to renew them. If rates have gone up, you can lock in those higher earnings.
Predictable returns: CDs offer fixed interest rates for the entire term, so you know precisely how much you'll earn by the time each CD matures.
Deposit insurance: CDs are a deposit product and therefore come with insurance on up to $250,000 per depositor, per institution. Depending on whether you open CDs at a bank or credit union, the FDIC or NCUA insures those deposits.
Regular maintenance: A CD ladder isn't a "set-it-and-forget-it" strategy. You'll have multiple maturity dates to track, at which point you'll have to decide whether you want to renew the CD, put the money into a different CD, or withdraw the cash.
Less liquidity : CD ladders give you scheduled access to cash, but you can't withdraw the money whenever you want. If you make withdrawals before a CD matures, you generally have to pay early withdrawal penalties .
Interest rate risk: Because CDs pay fixed interest, you lock in your rate until maturity. If interest rates rise after opening a CD, you'll be stuck with the lower rate throughout the CD's term (with the exception of bump-up CDs ).
Inflation risk: If inflation outpaces your CD's interest rate, your money will lose buying power over time.
Bonds are low-risk investments that pay you a fixed rate of return. For this reason, the "laddering" approach common with CDs also works with bonds. A bond ladder is similar to a CD ladder: It's a group of bonds with evenly staggered maturity dates. Splitting your cash between multiple bonds gives you regularly scheduled access to maturing bonds and can help you adapt to a changing financial climate.
