As a followup to Friday’s post about the recent changes to Ally Bank’s deposit agreement, I wanted to share some thoughts on minimizing your risks while seeking the best (safe) yields possible.
Certificates of deposit (CDs) are an attractive option when trying to boost your savings yield because they pay more competitive rates than a saving account while still offering FDIC insurance protection. The downside, of course, is that you’re agreeing to lock your money up for a set period of time in return for that higher return.
One strategy that many (myself included) have pursued has been to seek out CDs with high rates and low penalties for early withdrawal. That way you can lock in a high(er) rate today while maintaining flexibility to upgrade in the future. But the fact of the matter is that the size of the penalty doesn’t matter if the bank refuses to let you break the CD when the time comes.
One excellent way to mitigate these risks while still buying longer term (and thus higher paying) CDs is to assemble a CD ladder. I’ve written about this in the past, but the short version is that you buy CDs of varying maturities (e.g., 1, 2, 3, 4, and 5 years) and then renew into the longest maturity whenever one expires.
Over time this means that you’ll be holding longer-term CDs while still having access to a portion of your money each year. The net effect is improved returns (especially vs. a savings account) while still maintaining a degree of flexibility.
An alternative would be to buy “raise your rate” CDs, which typically allow you to increase your rate one time during the life of your CD. The tradeoff here is that you typically give up a bit in the way of stated interest rates in return for the option to raise your rate. If rates increase, you may come out ahead. If not, you would’ve been better off with a standard CD.
Another good hedge in the face of uncertain interest rates would be CDs that allow you to deposit additional funds in the future. While these don’t help in the event of rising rates, they can be useful if rates continue to fall as you can stuff them with additional money instead of buying new (lower rate) CDs going forward.
CIT Bank actually offers the best of both worlds in the form of their Achiever CDs, which let you bump up to higher rates and/or add funds to your CD in the future. The downside is that they only offer 1 and 2 year versions of these CDs.
Whatever you do, just be sure you keep your eye on the prize. The reality is that rates are frustratingly low across the board. Thus, you need to be careful not to take on a bunch of unwanted risk in hopes of securing a higher return.