What Is A CD Ladder?

Many ways to grow your money exist. For some, a certificate of deposit (CD) is an attractive savings option, offering a guaranteed interest rate. However, one drawback associated with CDs is the lack of liquidity. Depending on the CD type, you may not be able to withdrawal funds before the maturity date.

One strategy that may help overcome those concerns is trying a CD ladder approach. It offers the benefits of putting some savings into a CD and earning a guaranteed interest rate but allows for more flexibility. Here's what you need to know about this strategy.

What Is A Certificate Of Deposit?

A certificate of deposit is a savings product that offers a pre-determined fixed interest rate over a set period, called a maturity date. The term of a CD may run from a few days to upwards of ten years, depending on the financial institution.

Opening a CD is relatively straightforward. Many financial institutions offer them. Once you decide on one, deposit funds into a CD, and when it hits the maturity date, you'll be able to withdrawal the deposit plus the interest that is earned.

However, CDs typically have limited liquidity and flexibility. And if you withdraw from a CD early, there may be penalties that could offset any interest earned. So CDs may not be ideal if you're unsure whether you need to access those funds before the maturity date. In that case, consider a high-yield savings account.

Understanding A CD Ladder Strategy

If you like the idea of using CDs as part of a savings strategy but aren't sure about being unable to access the money, CD laddering may be something to explore.

What is a CD ladder? It's a strategy of purchasing multiple CDs but staggering maturity dates to allow for occasional liquidity as each one matures[1]. Depending on needs and strategy, you can distribute the funds evenly or use different amounts for each CD.

This approach allows you to take advantage of attractive interest rates, which can make a significant difference over time. You may earn more interest from a CD ladder than purchasing one shorter-term CD and rolling it over. Often, but not always, the longer the term is for a CD, the higher the interest rate, but you may not want those funds locked up for an extended period.

A CD ladder offers potentially higher interest rates while providing flexibility and liquidity from a consistent maturity schedule.

Example Of How To Build A CD Ladder

Imagine you have $5,000 to put into a CD. Rather than tying up the entire amount in a single 5-year CD, consider spreading the funds over several CDs.

  • $1,000 in a one-year CD
  • $1,000 in a two-year CD
  • $1,000 in a three-year CD
  • $1,000 in a four-year CD
  • $1,000 in a five-year CD

With this approach, you're growing savings over five years. Rather than keep the $5,000 locked away where you can't touch it, over time you'll have access to the funds on a regular schedule. In this example, you only need to wait a year for the first maturity date while the rest of the CDs continue to earn interest.

CD laddering can continue for as long as it fits your financial needs.

Once a CD matures, you can either renew the CD at the interest rate available at that time, or you can withdrawal the funds and put the money back into your savings or use it to help fund a short-term spending goal.

The Pros and Cons Of CD Laddering

As with any savings plan, there are benefits and drawbacks, so it's important to understand each before determining your best path forward.

What Are The Advantages Of A CD Ladder?

  • More liquidity: Laddering offers more liquidity compared to a single CD. While each CD has a fixed term, laddering ensures that a portion of your savings are available regularly as each matures.
  • Varied interest rates: Spreading savings across multiple CDs with different maturity dates means possibly taking advantage of varying interest rates. And you may earn more interest with laddering compared to what you would with just one CD. However, it’s also possible that CD rates may drop over time, so this is also a potential disadvantage.
  • Lowers risk: CDs are generally considered low-risk, so adding these to your savings strategy can help reduce overall risk.
  • Flexibility: CD ladders are often customizable to suit your financial goals and needs. You can choose the number of CDs, the amounts, and the maturities that align with your financial plans.

What Are The Disadvantages Of A CD Ladder

  • Lower returns: Compared to other savings products, CDs may offer lower returns.
  • Opportunity cost: You may miss out on other potential higher returns during the CD ladder's duration. For example, if interest rates go up, you may not take advantage of the higher rates.
  • Complexity: Managing a CD ladder can require organization as you need to keep track of multiple CDs with different maturity dates.
  • Limited liquidity: While CD ladders provide some liquidity as CDs mature, the funds remain locked away until each maturity date.

Overall, using a CD ladder approach is one way to take advantage of some of the benefits of CDs while limiting many drawbacks. However, weigh those drawbacks and consider if they align with your financial goals.

Are There Other Versions Of CD Laddering?

Since there are so many varieties of deposit certificates, you can consider different laddering strategies to find the best approach for you.

Here are a few common examples to consider.

Short-Term or Mini CD Laddering

With this approach, you use CDs with short maturity dates, such as a few months[2]. This may help take advantage of short-term interest rate fluctuations and give even quicker access to your money.

For example, if you have $5,000 and a shorter time frame because of liquidity concerns, you could do the following:

  • $1,250 in a three-month CD
  • $1,250 in a six-month CD
  • $1,250 in a nine-month CD
  • $1,250 in a one-year CD

However, with this strategy, although there's more access to funds, you won't likely see as high-interest rates as with longer-term CDs. So that's something to consider as you review the options.

The Barbell or Uneven Splits Strategy

Choosing a barbell approach means putting more funds into the earliest and latest maturing CDs and spreading the remaining funds throughout the rest[3]. It's a type of uneven splits approach where you don't distribute funds equally across all CDs. This approach can help balance potentially higher interest returns with more liquidity.

For example, if you have $5,000 and a six-year time frame, you could put:

  • $1,500 in a one-year CD
  • $500 in a two-year CD
  • $500 in a three-year CD
  • $500 in a four-year CD
  • $500 in a five-year CD
  • $1,500 in a six-year CD

With this strategy, you may need to be more savvy about what's happening in the market, economy, and Federal Reserve monetary policy to lock in the best rates. For many, spreading funds evenly across CDs can be a simpler strategy that's easy to follow.

Choose The Best Savings Strategy For Your Needs

CD laddering is one approach to savings that can help build more predictable returns into your savings strategy while adding liquidity for accessing your funds if needed. That flexibility may make CD laddering a great choice for some, but depending on savings goals and needs to access funds, it may not be the best fit for others.

However, what matters most is making the best choice for your needs that aligns with your savings strategy. Before you decide if CD laddering is right for you, look at the numbers and your financial goals to ensure they align. That can help you determine if this strategy is a good fit for you and your cash flow needs over the long term.

Learn more about PNC's certificate of deposits to see if a CD ladder works for your financial goals.