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Should You Ladder or Reinvest Certificates of Deposit

When you ladder certificates of deposit, you get high yields and reasonable access to the cash you are using. Experts believe CD laddering is the best option for building a savings portfolio that can deliver both available cash and interest income.

Laddering involves having some money available to invest – probably a good $5,000 at a minimum. Instead of putting the entire lump sum into a single certificate of deposit, you will actually put it into several that have varying maturity dates and interest rates. Laddering maximizes your certificate of deposit returns more so than simply reinvesting your money after a CD matures.

Reinvesting is when you put your investment into a one year certificate of deposit, wait for it to mature, then take the money and the interest earned and open a new CD for a year, and so on and so forth until you're ready to take the money out of CD's all together.

Laddering is when you put your money into several different CD's that mature at different dates, and when the first certificate of deposit with the shortest maturity date is reached, you use the money to open a new certificate of deposit with a longer maturity date. Each time your laddered certificates mature, you have the option of doing something else with that money, like moving into a money market account, savings account, buying stocks, or simply continuing your CD ladder by reinvesting into new certificates of deposit.

Here's an example of a conservative CD ladder with $5,000 to invest, and CD's maturing every six months (obtained from using BankRate.com's CD Ladder Calculating Tool):

  1. $500 in a 6 month CD at 4.15%.
  2. $500 in a 12 month CD at 4.4%.
  3. $500 in a 18 month CD at 4.5%.
  4. $500 in a 24 month CD at 4.51%.
  5. $500 in a 30 month CD at 4.45%.
  6. $500 in a 36 month CD at 4.75%.
  7. $500 in a 42 month CD at 4.75%.
  8. $500 in a 48 month CD at 5.05%.
  9. $500 in a 54 month CD at 5.05%.
  10. $500 in a 60 month CD at 5.25%.

When the first certificate of deposit expires after six months, you reinvest the proceeds into a new 60 month CD. When you are finished with this ladder, at the end of 60 months, the estimated value of your money is $6,390.77. This gives you $1,390.77 earned over 60 months. After the first 60 months, all of your money is invested at the highest interest rate and you will have access to a portion of it every 6 months.

This is considered a conservative ladder because every six months, you technically have access to a portion of your cash as each of the certificates mature, should something go wrong and you need that money. Ideally, you would continuing laddering cd's or move into other investments as your certificates mature, to make good use of the interest you've earned.

A slightly more moderate approach to laddering your $5,000 would look something like this:

  1. $1000 in a 12 month CD at 4.4%.
  2. $1000 in a 24 month CD at 4.51%
  3. $1000 in a 36 month CD at 4.75%
  4. $1000 in a 48 month CD at 5.05%
  5. $1000 in a 60 month CD at 5.25%

When your first certificate of deposit expires after 12 months you will reinvest the proceeds in the longest term CD. The estimated value after 60 months for your $5,000 investment is: $6,401.10. You've earned $1,401.10 in 60 months with this scenario.

For an individual using a reinvestment strategy rather than laddering their $5,000:

  1. $5000 in a 12 month CD at 4.4%
  2. $5220 in a 12 month CD at 4.4%
  3. $5450 in a 12 month CD at 4.4%
  4. $5690 in a 12 month CD at 4.4%
  5. $5940 in a 12 month CD at 4.4%

Each year the investor adds the proceeds into the next certificate of deposit opened. At the end of year 5, the investor would have approximately $6,201.00, or $1,200 earned in 60 months.

Anonymous   |     |   Comment #1
Wow, how out of date are those interest rates?  Is it really a good idea to be locking in rates as low as 1 percent for a 12 month certificate?  Post date is Presidents day 2011. 
Tucson   |     |   Comment #2
Looks like your question went into a black hole.  Too bad.  I could really use some advise on what to do next with my maturing CD's. Seems like 2.25% is the max return right now.  Need better options.
flagstaff   |     |   Comment #3
as always an excellent article by debbie