You know I believe there is no substitute for keeping an emergency fund in a federally insured bank or credit union account. That is the best—the only way—to ensure your “what if” money is always safe and will always be there for you. Yet I know how frustrating it has been to follow my safe—not—sorry advice since late 2008. That’s when the Federal Reserve pushed safe savings rates down to zero. The Fed’s move was focused to help the economy pull out of recession and then regain some positive momentum. But that was done at the cost of savers earning pretty much nothing.
There is finally some good news. The Fed is now methodically raising its key lending rate—called the Federal Funds rate—that determines consumer savings rates. The Fed has made three rate increases in 17 months and expects to make two more increases this year. That's good news because it signals that the economy is now strong enough that the Fed Funds rate doesn’t need to be kept at zero.
The even better news is that if you hunt around at online banks and credit unions you can now earn 1 percent or more on a savings account. And if, as anticipated, rates continue to rise you should be paid more, over time, on your savings. But plenty of banks are dragging their feet on raising rates. That’s why I want you to shop online for “best bank savings rates.” Or “highest bank yields.” Once you find a better deal, confirm the bank or credit union is part of the federal insurance program, and you’re good to go.
You might also consider certificates of deposit (CDs). A CD sold at a federally insured bank or credit union is just as safe as a savings account. But you can often earn an even better yield. That’s because CDs have set maturities: it can be as short as three or six months or as long as five years. If you want to cash out before a CD matures you will pay an early withdrawal penalty that will be a set number of months of interest.
You obviously don’t want that to happen. Keeping a chunk of your savings in a fully liquid savings account is wise. But you can also begin to move some of your extra cash into CDs with different maturities. For instance, you might put 1/3 of your extra cash in a 1-year CD, another third in a 2-year CD and another third in a 3-year CD. If, as expected, interest rates continue to modestly and methodically rise you can reinvest a CD that matures into a new CD that pays a higher rate. This is what is called building a CD ladder.