This Old Retirement Strategy is Making a Comeback

Aug 08, 2022

With interest rates back on the rise in 2022, many people are curious about the best ways to earn a decent yield on their savings. It feels like ages ago when you could put money into a savings account or money market mutual fund and earn more than, say, 2%.

While we might not entirely be there yet for money market funds, there are safe investment products that indeed feature a yield upwards of 3%. They are called bank certificates of deposit (CDs). While the music-playing kind of CDs has gone the way of the dodo bird, bank CDs are popular once again.

A CD sports a yield slightly higher than those of savings accounts and money market funds since an investor agrees to leave the funds as deposits with the financial institution for a pre-defined period. CDs are not risky like stocks and do not fluctuate in price as a bond fund will. Backed by FDIC insurance, they are also safer than annuities. You can find CDs at virtually any bank and credit union. Think of a CD as a bank-issued bond that, unlike stocks and corporate bonds, is not traded on a public market.

Retirees need ways to ensure income streams. While Social Security, pensions, and your investments are used to fund daily expenses, keeping some shorter-term cash on hand is a prudent financial strategy, too. Moreover, even younger individuals should keep an emergency buffer of cash to augment income from a job.

Finally, if you have a financial goal that is within a few years, you simply cannot afford the risk of a stock market downturn or potential volatility in the bond market. A possible solution to all these common investment scenarios is a bank CD.

With a CD, you deposit your money at a bank or credit union. In exchange for a “lock-up” period, you earn a fixed interest rate. The rate is higher than what you would get in a basic savings account. Withdrawing from a CD before it matures often means paying a small penalty or fee. Some bank CDs don’t even allow you to touch your cash before the term is up.

A strategy that uses CDs to their fullest is known as laddering. Laddering is when you buy CDs with different maturities. With this method, you guarantee cash flow while still earning the best possible interest rates. Spreading out maturities across a few years can help you behaviorally, too. You are less likely to splurge on unnecessary items since you cannot tap all the cash at one time.

CDs with a flat interest rate are most common, but there are other flavors. For example, a market-linked CD bases its return off a collection of stocks like the S&P 500. A market-linked CD can boast bigger returns than a plain vanilla CD, but they usually come with higher fees, and gains are taxed as income rather than at more favorable capital gains rates (as you would pay with an ordinary stock investment).

Other options include Buffered ETFs and more complex products also are offering attractive returns.

Another income option that appears to be gaining traction is the Multi-Year Guaranteed Annuity (MYGA). A MYGA pays a rate higher than what you’ll find on many short-term CDs since you take on extra risk from the issuing company. While a CD is backed by FDIC insurance, like a checking or savings account, you can lose all your money if the MYGA company goes bankrupt.

After many years of dismal interest rates, yields are finally on the rise. Investors should seek the best rates and products for their situation.

If you are interested in learning more about investing or assessing the risk in your accounts, check out our classes here.

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