Certificate of deposit laddering

Ladders And Coupons For The CD Investor Time was, you plunked down $5,000, or $10,000, or whatever, at a bank or savings institution and got a fail-safe, government-insured certificate of deposit.

The interest was good, usually a little better than the shorter-term Treasury offerings, and you could pick a maturity date from a few months to a few years.

When interest rates started to fall, experienced CD investors didn't want to get locked into something that might be of less value when rates eventually started to go back up. But who knows how far rates might drop and when they might turn back up again?

To avoid being locked into a lower-interest CD for months or years, some astute investors started to use a purchase system called "laddering."

Instead of investing a lump sum of, say, $10,000 in one CD, you spread your money over several smaller CDs with maturity dates of six, nine, 12, and 18 months, putting in $2,500 for each date.

"If interest rates go up in six months," says Chase Manhattan Bank spokeswoman Pat Farrell, "you can re-invest the money from the six-month CD and lock in a higher rate." On the other hand, she says, "if rates go down when the nine-month CD matures, you can purchase a shorter-term CD and wait for rates to move up."

By breaking down your CD investment into various maturity dates, you can take advantage of rate trends. And there's another advantage. It's called "couponing."

If you buy one $10,000 CD, you have to wait until it matures to take your money out. Otherwise, you're hit with an early-withdrawal penalty, which can significantly depress the interest rate you were supposed to get. If you buy four CDs at $2,500 each or five at $2,000 each, you get a form of contigency insurance. You may find yourself in a financial crunch with a lot of bills to pay. With "couponing," you can peel off one $2,500 or $2,000 CD from your portfolio to cover the contingency. If you had to take out the entire $10,000 in one lump, you would suffer a much greater early-withdrawal penalty.

Some banks and savings institutions offer purchase plans designed to help savers guard against losing out if interest rates go up. For example, the typical offer for a "bump-up CD" goes like this: You buy a six-month CD at 7 percent, and if the rate goes up to 7.5 percent, the bank or savings institution will "bump up" your rate to match the current offering. The catch? The initial rate may be lower than rates you could have obtained at other institutions.

Peter Weaver is a Washington-based columnist on personal finance.