Worried Interest Rates Will Fall? One Smart Strategy to Get the Most Out of Your Savings

Interest rates have been rising for about a year and a half, and some of our favorite high-yield savings accounts now have annual percentage yields, or APYs, of over 4%.

This is certainly good news for savers, but the problem is that it isn't guaranteed to last. In fact, many experts -- including the policymakers at the Federal Reserve -- expect interest rates to start to decline by the end of 2023, and for that trend to last for at least a couple of years.

If you're worried that interest rates might fall and reduce your savings account's interest rate, one strategy that you might want to consider is known as a CD ladder.

What is a CD ladder?

The basic idea is that the longer you're willing to lock up your money for, the higher interest rate you're likely to find from a CD. And CDs pay the same interest rate (APY) for their entire term, unlike high-yield savings accounts, whose interest rates periodically rise and fall along with market conditions.

A CD ladder is designed to combine financial flexibility with maximizing the yield from your savings. It involves a combination of short-term and long-term CDs.

Example of a CD ladder

Let's say you have $10,000 in rainy-day savings. If you were to keep it in a savings account that paid an APY of 4% and rates plunged to 1%, so would the yield from your savings. If you put it in a 1-year CD at a 5% APY, you would have that rate for a year, but would then be stuck with whatever the prevailing interest rates were. And if you put it in a 5-year CD, you'd lock in your rate for a long time, but wouldn't have access to your money for five years.

A CD ladder solves this problem by spreading your money out across CDs of varying maturity lengths. For example, you could take your $10,000 and allocate it like this:

• $2,000 in a 1-year CD
• $2,000 in a 2-year CD
• $2,000 in a 3-year CD
• $2,000 in a 4-year CD
• $2,000 in a 5-year CD

The idea is that one-fifth of your money will mature every year. You can then roll the maturing money into a new 5-year CD and lock in high yields, or have the ability to access it for purchases or other expenses.

It's worth noting that the current environment is a little strange in the sense that 1-year CD rates are actually a bit higher than 5-year rates. However, 5-year CDs can still help you lock in 4%+ interest rates even if the overall interest rate environment drops, so this is still a valid strategy to use.

A savings account and CD ladder combo could be a good move

If you're worried about having access to your money before your CDs mature, one alternative could be to use a high-yield savings account for some of the money. For example, instead of spreading $10,000 in savings out as discussed in the last section, you might try:

• 20% in a high-yield savings account
• 20% in a 1-year CD
• 20% in a 2-year CD
• 20% in a 3-year CD
• 20% in a 4-year CD

The idea is that you can get the same general advantages of a CD ladder, with the added benefit that one-fifth of your money will always be in a readily accessible place if you need access.

Drawbacks of a CD ladder

A CD ladder isn't a perfect strategy. There are two main potential drawbacks to be aware of before setting up a CD ladder of your own.

For one thing, if interest rates rise before your CDs mature, you won't benefit. While I don't think it's especially likely, if the interest rate on your savings account jumps from 4% to 7% by the end of 2023 and your money is in CDs, you won't get the higher rate.

The other potential drawback is if you need the money all at once. After all, the point of an emergency fund or rainy-day savings is to cover unforeseen expenses, so this is certainly a concern. To be sure, you can withdraw money from a CD at any time, but if you do so before it matures, there is likely to be a penalty (usually you'll give up the last few months' of interest).

Will interest rates fall?

The short answer is that nobody knows what interest rates are going to do, especially over a period of a few years. Rates on high-yield savings accounts could rise to 7% or 8% over the next three to five years or could fall back to the sub-1% levels that were common in 2020 and 2021.

The bottom line is that creating a CD ladder lets you lock in today's interest rates for a specific period of time, while continuing to take advantage of rising interest rates in the future as your CDs mature. If you have long-term savings, such as an emergency or rainy-day fund, a CD ladder could help you get the most possible yield out of it.