3 Ways CDs Can Help You Beat Inflation

Mature man reads the label on a milk carton.
Mature man reads the label on a milk carton.

Image source: Getty Images

Let's say you'd tucked $500 away in a drawer 10 years ago. You'd still have that money today, but inflation means it wouldn't go as far. Indeed, data from the Bureau of Labor Statistics (BLS) shows you'd only get $400 worth of goods or services at today's prices. Your buying power would have decreased by a whopping $100 in the past decade.

There are a few ways you can beat the inflation boogeyman. If your money is sitting in a drawer (or bank account) and not earning much interest, take it out and consider investing it in a CD. Here are three ways you might use CDs to stay ahead of cost-of-living increases.

1. Pick a high APY

In essence, beating inflation means making sure your money earns enough interest to offset its dwindling buying power. If the APY on your savings is higher than the rate of inflation, you will come out ahead. That would have been nigh-on impossible to do back in 2022 when inflation peaked at over 9%.

But today, you can earn over 5.00% APY on some of our top CD picks. That's more than enough to offset the current rate of inflation. Prices in April were up 3.4% from the year before, according to data from the BLS. That's slightly lower than the previous month, and supports reports that inflation is slowing.

2. Use a CD ladder

The common wisdom is that investing in CDs doesn't make sense in times of high inflation. There's a risk you might trap your money in an account that isn't earning enough to keep up. Unlike a high-yield savings account, you'll need to commit your money to a CD for the full term or pay an early withdrawal penalty to withdraw it before the end of the term.

Even worse? If interest rates rise, so will the APYs on savings accounts. Not only might your money not earn enough interest to offset higher living costs, it also won't be earning the best available rate. It's a double whammy. Particularly as it isn't unusual for both things to happen. One of the ways the Fed can tackle inflation is to increase interest rates.

For example, let's say you'd opened a 5-year CD in 2020 earning an APY of 1.00%:

  • Your APY would have been way behind inflation. You'd have lost buying power on that money when inflation skyrocketed in 2021 and 2022.

  • When the Fed increased rates, you would not have been able to take advantage of the attractive APYs.

A CD ladder doesn't solve this problem completely, but it does give you more flexibility. Laddering CDs essentially involves splitting your money between multiple CD terms of different lengths. You might open a 1-year CD, a 2-year CD, a 3-year CD, a 4-year CD, and a 5-year CD. As each one matures, you can choose what to do with that money. If there are higher APYs available at that time, you can take advantage of them.

3. If inflation is increasing, consider a variable-rate CD

CDs with variable interest rates are unusual. These are also called flex CDs. Their APYs are not fixed and can go up or down during the CD term. Flex CDs only really make sense if you think interest rates will rise even further. It mitigates the risk of being stuck with a lower APY when rates are increasing.

Variable-rate CDs are a useful tool to have in your arsenal in times of high inflation. But that's not the scenario we are looking at right now. Inflation is coming under control. Most experts are waiting for rates to fall, though it isn't clear exactly when that will happen.

Savings accounts and CDs are paying high APYs, and it's very unlikely they will go up much more. If you open a variable-rate CD now, you're tying up your money in an account that's likely going to pay a lower APY over time. Moreover, you're missing the opportunity to lock in a high fixed rate.

Key takeaway

Inflation appears to be slowing and interest rates remain high. That presents an opportunity for savers to stay ahead of the inflationary boogeyman. If you have money you may need in the short to medium term, see if you can lock it into a CD with a high APY for a term that suits you. Any rate that's higher than the current rate of inflation will stop cost-of-living increases from eating into your nest egg.

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