Many people plan long-term for handling financial needs such as retirement and for a child's college education. When money is systematically saved over a period of time and earmarked for these events, the financial burden is reduced. But life is full of surprises, and when you least expect it, a significant amount of money may be needed that wasn't planned in a monthly budget. A major health expense, a big car repair, or home repair (such as reshingling the roof) can catch people off guard financially. To avoid having to take a loan and pay interest when those times occur (and it's inevitable that they will occur), every family should have an emergency fund. Having some money set aside "for a rainy day" will help cushion any expensive, unbudgeted one-time financial events that come along. One way to do this is to use a technique called " CD laddering."
Instructions
Staggering CD Maturity Dates
1. Invest in CDs with staggered maturity dates. There are many different maturity date configurations that can be used in a laddering strategy. Let's assume you have $2,000. You could purchase four CDs valued at $500 each. Select a maturity date for the first one for three months, the second one for six months, the third one for nine months, and the fourth for one year. As each CD matures, simply "roll" it over and reinvest that money. Keep the maturity date the same. With this "ladder CD" strategy, you are never more than three months away from some emergency cash. Of course, CDs can be withdrawn early in extreme emergencies, but there is a penalty. Nevertheless, CDs pay a higher interest rate than savings accounts, money market funds and checking accounts, and they can be considered to have good liquidity.
2. Purchase CDs with maturity dates that are closer if you have more money to initially invest. If you have $6,000, for example, you could purchase 12 CDs, staggering maturity dates so that after a period of time, one CD would mature every month. That way you would never be more than 30 days away from having access to emergency fund money. Because most banks do not offer one month CDs when only $500 is invested, you may have to start by purchasing three, six, nine, and 12 month maturity dates, then wait a month and buy CDs with three, six, nine and 12 month maturity dates, and repeat that once again a month later. That would set up the ladder on monthly intervals. Each month is like a "rung of a ladder". If you don't have a lump sum of money to begin your emergency CD ladder fund, follow these next steps.
3. Open a savings account at a local bank to start your emergency fund. Most savings accounts can be opened with a minimum of money, often as low as $10 to $50. The eventual goal will be to purchase bank certificates of deposit (CDs), and to stagger the maturity dates. However, to purchase a CD, a minimum of $500 is required by most institutions to open an account. Therefore, we suggest starting with a simple savings account. Decide how much money you will faithfully deposit into the account each week. If you can only afford $20 a week to begin with, that's fine. Build this amount into the family budget, and take that money right off the top of your paycheck, before you spend or allocate any of it for other purposes. The key is to be consistent, and not to worry that only a small amount is able to be put away each week. It will accumulate over time. Also, consider adding any "windfall" money you receive to your emergency fund. Examples include getting cash back from using a credit card or a refund from your income tax.
4. Purchase a CD for $500 once you have accumulated over $500 in your emergency savings account. Choose a maturity date of one year. Continue contributing each week to your savings account, building it up until it again reaches over $500. Withdraw $500 from your savings account once it again reaches over $500, and purchase another $500 CD. Select a maturity date of one year, as long as it does not mature in the same month as the one you already own. Continue saving and purchasing CDs as your money builds. With each CD purchase, select maturity dates that do not fall in the same month as the previous ones. Eventually you will have many CDs, each maturing at different times of the year. Reinvest each CD as it matures.
5. Increase your rate of return using CD laddering by purchasing CDs at different times, rather than all at once. Interest rates are ever-changing, and the interest rate for CDs will go up and down as time goes on. Also, sometimes bank offer specials with higher than currently available interest rates. By purchasing one CD this month, the next one in a month or two, and so on, you can take advantage of changing interest rates. If you purchase all the CDs in your laddering portfolio at the same time, you may suffer "opportunity lost" if interest rates go up within the next few months. Laddering by staggering deposits into CD investments may give an overall better the rate of return, similar to the stock market strategy of "dollar cost averaging." When CD yields are low, ladder the intervals closer together, such as three-months and six-months, to be prepared to take advantage of interest rates when they rise.
