Laddering Your Way to Financial Success

What is a certificate of deposit?

A CD is basically a savings account, a structured deposit that matures within a given amount of time and pays a fixed rate of interest. CD's are relatively short-term investment options, maturing in as little as one month, although you can purchase CD's that take up to 5 years to mature. You can of course, access your money sooner but you'll lose interest and pay a small penalty for early withdrawal.

In general, the longer the CD term, the better the interest rate, some paying over 5% and depending upon the bank, you can open a CD with small amounts of cash.

The problem is, you want to maintain some level of liquidity as well (easy access to your cash) and socking it away in a 5 year CD to get that primo interest rate isn't exactly considered liquid.

What to do?

Try laddering instead.

Because CD's are available with so many commitment options, you can spread your money out among several CD's instead of stashing it all away in one long-term investment.

This is called laddering and it gives you the best of both worlds.

For example, if you have $5,000 to invest, a 5 year CD means you can't touch that $5K for 5 years without losing some of your investment.

Laddering on the other hand would break that $5,000 down into smaller increments, investing each in a separate CD that matures at a different time period. $500 in a 1-month CD, another $500 in a 3-month CD and so on. As each CD matures, you can cash it out if you need the money or renew it for another equal term if you don't.

This laddering technique means that you'll always have access to some of your cash without losing interest or paying penalties and you'll still benefit from the bigger interest rates on the longer-term commitments.

Banks have gotten pretty competitive so to find the best rate, I suggest you start at BankRate.com's calculator. Choose your commitment term and then browse to see who offers the best rate for the amount of money you're willing to invest.

One bank to check out is ING Direct. They're currently offering 1 year CD's at 5.03% interest with a minimum investment of $1. That's right... a buck. Not that you'd get a lot of interest off $1 but its a good option for investors who don't have $1,000 or more to invest long-term.