Having an easily accessible cash stash can prove to be one of the most important parts of your saving and investing strategy. Maintaining the liquidity of the equivalent of six-to-twelve months of your expenses means that if you run into an emergency, you don’t have to sell stock (incurring tax) or dip into retirement funds (incurring tax and/or withdrawal fees) in order to CYA.
Certificates of Deposit (CDs) usually give you good rates on your savings while maintaining liquidity. If you have to withdraw funds from your CDs before they mature you may be hit with a penalty, but depending on the CD you choose, the interest gaines will still be higher than what you might yield on a regular savings account.
Right now, I don’t have six months worth of expenses saved up in cash, although I used to. Once I have about $5,000 to put to the side for an emergency fund, I plan on laddering CDs with different terms of maturity.
This is how that works: Suppose there are five levels of maturity, one year, two years, three years, four years and five years. The longer the term, the higher interest yield. To ladder the CDs, I would spend $1,000 on each type.
At the end of the first year, the first CD will mature. I’ll take that $1,000 plus interest and buy a five-year CD. That CD will now expire at the end of year 6. At the end of each year, another CD will expire, and with that money I will purchase another five-year CD.
When I’m ready to start this, I’ll go with ING Direct because they offer great interest rates and I already have my savings account with them.
I may consider starting sooner with less than $5,000. It would be a good idea to start getting those rates, even if it is on a smaller amount of money.
Updated February 6, 2012 and originally published October 26, 2004.