After noticing a decrease in her savings account rate last summer, Anna Sergunina, a certified financial planner, wanted to maintain a higher interest rate on her emergency fund. To achieve this, she opted for a short-term CD. “I simply wanted to secure a better rate after observing the drop in my savings account interest,” explains Sergunina.
Since June of last year, the rates on high-yielding savings accounts and money market accounts have been decreasing. This trend continued due to the Federal Reserve’s decision to lower short-term interest rates three times in 2019. It appears that savings yields may continue to drop a bit further since the Fed is expected to hold off on any rate changes in the near future.
It is not possible to obtain a one-year CD at the same yield that was available last July, as many top-yielding CDs have since decreased. However, you can secure a fixed rate by investing in a short-term CD now since it seems unlikely that the Fed will increase rates in 2020.
Why you should consider a short-term CD
Timing the annual percentage yields (APYs) of CDs is difficult and probably not worth the effort. Last year, there were projections of multiple rate increases at the start of 2019, but instead, the Fed cut rates three times.
Stockton says that he never assumes he can outsmart the market. He believes that there are too many unknown factors that can affect the market. He thinks that trying to outmaneuver it is risky and may not always be successful.
A year ago, some people may have waited for higher CD rates that were expected to rise. However, more than a year later, rates have been cut multiple times, which is the first time in a decade.
According to the chief financial analyst, CD investors will find the one-year term the best option since the Federal Reserve will not be making any changes soon.
According to McBride, the yield on a one-year CD is higher than what can be obtained from an online savings account or a six-month CD, but it is not significantly different from the yields offered in multi-year maturities. Therefore, committing to a longer-term CD does not make sense as it will not provide a higher yield. Opting for a one-year CD will allow flexibility to reinvest in 12 months when better deals might be available for other maturities.
Typically, CDs provide a constant APY throughout their term. However, there are online banks offering one-year CDs with an APY of over 2 percent. Additionally, there are also CDs with high yields available that have low or no minimum deposit requirements.
Make sure that the CD terms are brief. Although some top-five year CDs are currently providing an APY of approximately 2.25%, it’s not worthwhile to tie up your money for longer than one or two years just for the extra yield.
When a short-term CD makes sense
If you have money that you won’t need to use for a while, putting it in a short-term CD can earn you a fixed APY. Keep in mind that many high-yield CDs come with penalties for early withdrawals. Thus, if there’s a chance you may need your money earlier than the term expiration date, it may be better to stick with a savings account or money market account.
According to Stockton, it is always advisable for consumers to make a decision that they can live happily regardless of any future circumstances.
If you are avoiding CDs because of early withdrawal penalties, a no-penalty CD is also an option to consider.
Factors to consider when shopping for a CD
It pays to consider these critical factors when searching for a CD:
- APY: You are getting a CD mainly because of the interest it will earn. To ensure a good yield, compare CD rates. You should be able to find a yield of over 2 percent APY on a CD of two years or less without much difficulty.
- Minimum opening deposit/balance requirement: Before depositing money in a CD, ensure that it meets the minimum balance requirements. Look for options that have a low minimum balance and also offer a competitive APY.
- Purpose of the money: If you intend to purchase a house soon, it’s better not to deposit the money in a CD. However, if you don’t plan to use the money for the next two years, you may consider investing in a two-year or a shorter-term CD to grow your money with a fixed APY. Keep in mind that a CD is not suitable for short-term needs.
- Early withdrawal penalties: Please determine the penalty for withdrawing funds from the CD before the end of the term. It is advisable to invest in an amount that is not likely to be needed during the CD term. It is a wise approach if this means depositing a little less in the CD and putting some in a savings account.
It’s a good idea to monitor the maturity date of your CD so that you can check if the APY was altered at the end of your term. Even if the rate goes up, there might be a better rate available elsewhere. Therefore, it’s recommended to explore alternatives before making a decision.