Long-term savers: benefits of a 5-year CD

Considering the volatility of the markets, it’s no surprise many people opt for the safety of a five-year CD to protect their savings. That’s because CDs offered by banks are insured up to $250,000 per depositor by the FDIC. If that seems like a good feature to you, here are some factors to consider.

Definition of a 5-year CD

A certificate of deposit is a savings product that guarantees the principal and earns interest at a set rate as long as no early withdrawals are made. A five-year CD requires investors to make a minimum deposit and to leave the principal intact until the maturity date. Withdrawals made before five years have passed can result in a stiff penalty, although interest can be taken or allowed to accumulate in the CD.

Advantages of a 5-year CD

In general, the longer the term, the higher the interest rate, so a five-year CD usually offers a higher interest rate than a standard savings account, money market account or shorter-term CD. They also offer the advantage of guaranteed return of principal as long as the investor keeps the money in the account until the maturity date.

Disadvantages of a 5-year CD

While a CD is certainly safe, a long-term CD is not likely to earn as much as a riskier investment. In addition, because of the penalty incurred for early withdrawal, CD investors have little flexibility to take advantage of rising interest rates. One way some CD investors overcome this disadvantage is by “laddering” their CDs, with maturity dates for different CDs every few months to allow for reinvestment flexibility.

Who benefits most from a 5-year CD?

Financial planners always recommend a mix of investments for individuals, including some that are riskier than others. Investors who prefer a safe investment will be attracted to a five-year CD, since they normally offer a higher return compared to short-term CDs yet are virtually risk-free.