Savings account interest rates have been lackluster over the last several years, to say the least. Ever since the Fed lowered rates following the Great Recession, savers have essentially been punished. But recently, rates have been on their way back up.
Even so, even the best savings accounts still only offer about 1-2% APY. But if you’re willing to keep your money in the bank for several months to several years at a time, a certificate of deposit could be the way to earn more interest without taking on any risk.
What Is A Certificate Of Deposit?
A certificate of deposit, or CD, is a type of time deposit account. Essentially, it’s a savings account that requires you to keep your money on deposit for a certain period of time. In exchange, the bank will (usually) award you a higher interest rate.
Why? One of the main ways that banks make money is by using customers’ funds on deposit to make loans, investments and other lucrative deals. Of course, if account holders are constantly withdrawing their money, it’s hard to leverage those funds. So to encourage customers to keep their money on deposit for a while, banks offer CDs, in addition to other deposit accounts such as savings and money market accounts.
Usually, the longer you keep your money in a CD, the higher the rate you can earn. Plus, your principal deposit is never put at risk, which is the case with low-risk investments like money market funds and bonds. The flip side, however, is that if you withdraw the money early, you’ll be charged a penalty fee that can wipe out any earnings and then some, especially when interest rates are relatively low.
Is Now A Good Time To Buy A CD?
Right now, the average six-month CD rate is a measly 0.39%, according to the FDIC. Longer-term CDs aren’t looking much better; the average two-year and five-year CD rates are 0.84% and 1.28%, respectively. That’s a far cry from the mid-80s, when rates were in the double digits, as you can see below.
Historical CD Rates (1984-2016)
Still, considering how low rates have been over the past several years, today’s CD rates are looking pretty lucrative in comparison. Plus, some banks are offering much better rates than today’s averages ― a bit over 3% in some cases.
The tricky thing about CDs is that you have to predict how and when rates will rise or fall in the future, and then choose a term length accordingly. If you choose a term that’s too long and rates rise while your money is locked up, you could miss out on higher earnings. On the other hand, if you choose a shorter-term CD and rates fall, you missed the opportunity to lock-in previously higher rates by selecting a longer term.
According to Justin Pritchard, a certified financial planner in Montrose, Colorado, and founder of Approach Financial, Inc., it’s best to deposit your money in a CD if you know you don’t need the money for a while, and if rates are going to fall or stay the same.
“If rates are about to rise significantly, it could make sense to wait because higher rates would be available soon,” he said. “But nobody can predict both the direction and the speed of rate movements.”
It’s true we can’t predict the future. But for now, we do know that rates will likely stay the same at least through the end of the year. Minutes from the March meeting of the Federal Open Market Committee indicate that most of the officials don’t expect the federal funds rate to change through the end of 2019.
“So, for now, there appears to be a ceiling on benchmark rates,” Bankrate’s senior economic analyst Mark Hamrick said in a statement. “That’s good news for borrowers and investors for the near-term, but not so great for savers hoping for higher returns on their savings.”
Try A CD Ladder To Earn The Most Interest
So what should you do? One way to take advantage of higher CD rates without locking up all your savings for a long period of time is by creating a CD ladder.
It works like this: Say you have $5,000 in savings. You open a six-month CD and deposit $1,000. Then you open a 12-month CD and deposit another $1,000. You split the last $3,000 among 18-month, 24-month and 36-month CDs. The exact amounts and timelines are up to you, but the idea is that your money is spread across several accounts with varying rates, with a portion of those funds maturing every six to 12 months. At those points, you can decide whether to withdraw your money, roll it over into a new CD or invest it elsewhere.
Another option is to look for liquid CDs, also known as no-penalty CDs, or bump-up CDs, which adjust to higher rates if rates go up during the term. “But those features come at a cost, and you typically earn slightly less when you originally buy the CD because you have the opportunity to cash out or earn more later,” Pritchard said.
Where To Find The Highest CD Rates
If you do decide that a CD is the right place to put your savings, your nearest megabank branch is probably the last place you should look. Most national banks are offering mediocre rates at best. To find the best CD rates, you’ll want to look locally or online.
“The online deals are relatively easy to find, but local banks and credit unions typically advertise special offers in local papers or other publications,” Pritchard said. Rate aggregators such as the ones offered by Bankrate, Nerdwallet and DepositAccounts can help you search for both local and online CD rates according to your location, deposit amount and more.