I’m 70 and still working. I have about 700k in savings and CDs, home is paid off and I plan to retire in a year.
I am considering putting a portion of the $ into long-term CDs since the interest rates are near 5%.and relatively safe.
I figure if the worst possible scenario happens, I can always withdraw from the CDs and pay the penalty, From what I understand government bonds could be less forgiving in that if the interest rates fall I would have to sell the bonds at that price.
I just want to have some extra income coming in after I retire and am tempted to invest in 5 or even even 10 year CDs.
Any advice would be appreciated.
Comments
1. As of today the only CDs that yield 5% are those with shorter duration ones, 9-12 month. Creating a CD ladder is necessary in order to maintain cash flow (income) as you desired. For example, a one-year ladder consisting of 4 CDs with each maturing every 3 months would provide income every 3 months. So it boils down to how much extra income you want from your CDs. Don’t forget that the interest accrued from CDs is taxed as ordinary income with both federal and state tax applies. Treasury bills/notes are federal tax-exempt but state tax is still applied.
2. CDs are safe (FDIC insured) but they are not liquid during the investment period. Some bank CDs pay interest monthly, but they pay at lower yield. Brokered CDs at your brokerages pay higher yield, but majority of them pay at maturity, not monthly. Treasury bills (1 -12 months), on the other hand, are highly liquid and one can sell them on secondary market if necessary. Creating T bills ladders will provide periodic income just as CD ladders.
3. At current inflation rate (CPI as of Feb 2023 is at 6.2% y-o-y), you are losing future buying power each year by investing in CDs alone. Thus, other investment vehicles such as stocks, bonds, and others are required as part of the “growth” component of your retirement income.
Within this MFO discussion forum, you are getting opinions from other investors. The best answer should come from your financial planner. At least you have something to consider as a starting point. Best wishes.
He reports finding typical early withdrawal penalties averaging around 1 year's interest on a 5 year CD. Tolerable I suppose if you hold the CD for at least half way. The piece was written in 2019; I doubt penalties have gone down since then.
Broker-sold CDs can be harder to get out of. This is usually done by selling them on the secondary market. The CDs are thinly traded and one risks losing a lot by selling early.
Either way, with bank failures more than a theoretical concern now, you should probably check into the financials of the bank you're thinking of using. While a CD and its accrued interest is insured, should the bank fail, your rate going forward might be reduced. This isn't a concern for short term CDs. However, you're looking to lock in a rate for many years, and that could be stymied by a bank failing.
https://publicintegrity.org/inequality-poverty-opportunity/when-banks-fail-so-do-those-promised-cd-rates/
Buying a CD (for some of your money) is not a bad idea, you just need to exercise care.
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I think you (OP) meant that if interest rates rise and you need cash, selling a bond could result in a significant loss. Just look at what happened at Silicon Valley Bank.
We live pretty frugally - pretty much homebodies (boring you could say).
I have just started to calculate how much we will spend including Medi-Care, taxes etc.
We have no equities - all in CD’s and Money Market. I don’t have the stomach for the stock market.
I did come across a 5%, 5 year CD with this credit union. It seems to be well established and the early withdrawal penalty is better than most. It’s supposed insured by the government. I would appreciate your opinion on it. Most other institutions are in the 4.5 range.
https://allincu.com/
All In Credit Union - 5.00% APY
Term (months): 60
Minimum deposit: $1,000
Early-withdrawal penalty: 3 months of interest
Membership: Anyone can join All In by signing up for a free membership in the Fort Rucker/Wiregrass Chapter of the Association of United States Army, keeping at least $5 in a savings account, and paying a one-time fee of $1.
I’ll look into CD and Treasury ladders as I don’t understand the advantages over regular CD’s but it would seem those exempt from federal taxes would/could make a big difference.
Thanks for all the feedback!
@Jan- a bet on a long-term CD at a high interest rate has it's own risks for the issuing credit union or bank, and that risk is sort of the opposite from what took down Silicon Valley Bank recently. If the Fed's interest rates come down in a year or two that issuer will be stuck paying out at a high rate but itself having to invest for income at a lower rate. Do enough of that sort of thing and that ain't so hot either.
When Jan buys a CD, the bank invests that money long term. That long term investment will pay enough to service Jan's CD. When Jan's CD matures in five years, the bank will have to come up with the principal. Assuming that interest rates drop in the future, the bank's investment will have appreciated. So the bank will have no problem repaying Jan.
To address larryB's moral hazard comment - it's generally not a long term deposit that creates a problem, since the bank has locked in its own return. There's no mismatch.
Rather, a mismatch comes about when old short term deposit money (getting low interest) leaves and is replaced with new short term deposit money earning higher yields, while the bank is stuck in ongoing investments with lower yield.
FWIW, the mutual savings bank and S&L crisis leading to institutions offering unsustainable deposit rates (including CD rates) was triggered by a unique set of conditions including:
- artificially low deposit rates (until CDs were created in 1978 and the 1982 Garn-St Germain Act created MM deposit accounts);
- disintermediation (people pulling money out of bank accounts to invest directly in Treasuries and newfangled MMFs);
- restrictions on these institutions limiting their investments largely to lower yielding fixed rate mortgages; and
- massive deregulation (allowing the institutions to act recklessly while being insured).
So while there's a superficial resemblance to the situation OJ described - banks paying higher interest rates on new deposits than they're earning on their portfolio - the S&L situation was different, with rising rather than falling rates underlying the mess.
FDIC history, The Savings and Loan Crisis and Its Relationship to Banking
FDIC history, The Mutual Savings Bank Crisis
Federal Reserve history, Garn-St Germain Depository Institutions Act of 1982
I didn't mean to suggest a direct symmetry. Just pointing out that a major imbalance in bank/S&L income vs outgo, if carried on long enough, is likely to result in problems of one kind or another. My confidence in bank/S&L executives to recognize, anticipate, and effectively avoid such situations is, to say the least, minimal.
Right now, CDs are paying a bit higher than T bills.
Yep.