Life is all about balancing risks and rewards — especially when it comes to your finances. You want your money to earn interest at the highest rates, but you also want to safeguard your principal.
Generally speaking, high-risk investments — like some stocks and bonds — yield higher returns than FDIC-insured bank products — like savings accounts and certificates of deposit (CDs). But the trade-off is that you could end up losing money, even principal. If you’re leaning toward a more conservative approach to earning interest, CDs can be a good place to start.
So, how risky are CDs? The answer depends on your definition of risk and your earnings expectations within your own savings plan. Here’s what you need to know to weigh the risks and rewards of saving with CDs.
CDs are almost always FDIC-insured.
CDs from FDIC-member banks are insured by the Federal Deposit Insurance Corporation up to the maximum amount allowed by law, which means they are about as safe a place to save as you can get. The FDIC protects the money in deposit accounts — CDs, savings and money market accounts, and checking accounts — against loss if the bank fails.
In order to get the full protection the federal insurance provides, you do want to be sure your combined deposits land within federal limits. The FDIC offers an online calculator to help you determine the coverage your deposits qualify for.
CDs typically offer higher rates than other deposit account types.
While other deposit accounts, like savings and checking accounts, are also protected by FDIC insurance at member banks, you’ll usually get higher annual percentage yields (APYs) with CDs than you will with those other types of accounts. You’ll likely find the highest rates offered on longer-term CDs.
Yet, CDs often yield lower returns than investment accounts.
Even the best CD rates usually end up yielding lower returns than investments, like stocks and bonds. But unlike CDs, investment accounts are not FDIC-insured. That means you can lose money, including your principal, on your investments.
CDs usually require you to “lock in” a given rate.
The fixed rates offered by most CDs can be a good thing. If you secure a great rate, you’ll keep that rate during the length of the CD term.
But those fixed rates also mean you might be stuck with a lower rate if interest rates rise before your term is up. Some banks alleviate that risk by offering “bump-up CDs” or “step-up CDs” that give you the option of increasing your rate at some time over the course of your CD’s term. That’s the idea behind the Raise Your Rate CDs at Ally Bank.
Early withdrawal fees can eat into your interest earnings.
A CD usually requires you to keep the money in the account until the end of its term, in other words, until maturity. If you end up needing the money before then, you’ll likely end up paying an early withdrawal penalty. So it’s important to consider the length of time you can afford to put the money away.
Note, however, that there are several types of CDs available, including CDs without early withdrawal penalties, like the Ally Bank No Penalty CD. Just be sure you understand all the terms of any account you consider.
You don’t want to lose ground to inflation.
Leaving your money in any deposit account may mean losing some purchasing power over time if your rate of return doesn’t keep pace with the rate of inflation. But, with some good comparison-shopping skills and an eye on changing rates, you should be able to find CDs — especially long-term CDs — that more than keep up.
Ally Bank tip: Online banks often offer better rates than traditional brick-and-mortar banks.
CD laddering can help you get around some CD drawbacks.
One way to make sure you get the maximum benefit with minimum certificate of deposit risk is to use a CD laddering strategy. A CD ladder basically spreads your funds over a number of CDs with staggered maturity dates.
With a CD laddering strategy, you take advantage of the best long-term CD rates, have periodic access to your funds (avoiding early withdrawal penalties), and make sure you get the highest rates offered each time one of your CDs matures. This makes CD laddering especially well-suited to saving for your long-term goals.
You can balance solid returns with peace of mind.
With the right CD(s) and a good savings strategy, it’s possible to strike the right balance between earning interest at competitive rates and protecting your savings against loss.
No matter which CD — or combination of CDs — you choose, you can count on Ally Bank to offer competitive rates and great customer service. Most of our CDs have no minimum deposit required. You also get our Ten Day Best Rate Guarantee with every CD: When you fund your CD within 10 days of your open date, you’ll get the best rate we offer for your term and balance tier if our rate goes up within that time.