CD Ladder - Optimizing your CD Investment

There are multiple reasons why using a CD Ladder is more effective than buying an individual CD. To start, if you were to buy an individual 5 year CD today at a particular rate, you have two things working against you - 1) You need to wait the full 5 years before you can capture the full interest accrued and 2) you may have missed out on a much higher yield that evolves a year later while you're locked into the first CD.

Example: If you had a long term time horizon, but wanted to ensure access to your funds at routine intervals, you could break up your total investment into 5 parts. Invest 1/5 of the total principal into 5 different CDs: 1 year CD, 2 year CD, 3 year CD, 4 year CD, and a 5 year CD. At the end of year 1, you'd then invest that new principal (plus accrued interest) into a new 5 year CD to capture that highest instantaneous yield, and continue that pattern each year. This would ensure that each year, liquid CD principal and interest would be available to you, regardless of where the other CDs are at their cycle. Additionally, in a rising interest rate environment, the new 5 year CDs opened in subsequent years would have superior yields over what you could buy now (or perhaps if you had to wait out the initial year 5 to get access to your funds again).

Since you're the one managing the CDs, it's within your control to continuously search for the bank or institution offering the best CD deal each time a CD matures, as opposed to just blindly rolling them over with the same bank.

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