This post may contain affiliate links which may compensate us based on your interaction. Please read the disclosures for more information.
You may be inclined to chase the best CD rate you can find today. Read on to see why that might cost you. [[{“value”:”
Image source: The Motley Fool/Upsplash
When there’s an opportunity to snag free money, whether it’s cash back from your credit card or a rebate on an item you purchased, I say go for it. I mean, it’s free money. It doesn’t get much better than that.
If you ask me, CDs are easy money. That’s because you’re putting a certain amount into the bank and are getting a guaranteed interest rate on that cash. Since you’re not working for that interest, I think it’s more than fair to call it easy. And based on what CD rates look like today, the potential to earn a lot of easy money from your bank is huge.
You may be inclined to snag the highest CD rate you can get right now. For the most part, you’ll probably find that with a 12-month CD or shorter, whereas a longer-term CD might pay a little less. But a longer-term CD could be a smarter move.
Why are longer-term CDs paying less?
It’s pretty typical for banks to offer their best rates on longer-term CDs because you’re committing to leaving your money in place for an extended period. But there’s a reason that’s not the case today.
CD rates are high right now because the Federal Reserve spent the past couple of years raising interest rates. But the Fed is expected to start cutting rates later this year.
Once that happens, CD rates are apt to start falling. So banks aren’t offering their best rates on longer-term CDs because that would mean taking a risk on their part.
But because of all of this, you actually may not want to chase the highest CD rate you can find today. That approach might cost you money in the long run.
Don’t overlook the big picture
You might assume that opening a 12-month CD is your best bet right now. But I’d argue that a longer-term CD is a better choice, because it might pay you more money all-in despite offering a lower rate now. Let’s run through an example so you can see what I mean based on the rates The bank in our example is offering: a 5.00% APY for a 12-month CD and a 4.00% APY for a 36-month CD.
With a $10,000 deposit, a 36-month CD will pay you $1,249 over three years, assuming you don’t withdraw your CD early and lose some of that interest to a penalty.
Meanwhile, all you know about a 12-month CD is that it will pay you $500 over the next year with a $10,000 deposit. Beyond that, it’s anyone’s guess.
However, we do know that CD rates are expected to fall. So let’s say that after a year, the APY on a 12-month CD goes down to 3.00%. At that point, your initial CD’s value will be $10,500, so you’ll earn $315 in interest.
A year later, the APY on a 12-month CD might fall to 2.00%. At that point, your CD’s starting value will be $10,815, so you’ll earn $216 in interest.
So let’s add up the numbers: $500 + $315 + $216 = $1,031. All told, that’s $218 less than what you would’ve gotten by opening a 36-month CD at 4.00% to begin with.
And yes, these numbers are based on guesses/assumptions. I don’t know what 12-month CD rates will look like a year from now, or a year from then. Nobody does.
The point, however, is that you may earn a lot more money with a longer-term CD today, even if it doesn’t offer the best rate out there. So before you rush into a 12-month CD, think about how much you might gain by committing to a longer CD term.
Alert: highest cash back card we’ve seen now has 0% intro APR until 2025
This credit card is not just good – it’s so exceptional that our experts use it personally. It features a 0% intro APR for 15 months, a cash back rate of up to 5%, and all somehow for no annual fee!
Click here to read our full review for free and apply in just 2 minutes.
We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers.
The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.The Motley Fool has a disclosure policy.
“}]] Read More
