Certificates of deposit (CDs) are popular low-risk investments. After funding one, your money will earn interest during the CD's maturity period, which could last anywhere from one month to several years. You'll get your money back, plus interest, when the CD expires. Yields are often higher than traditional savings accounts, but you'll likely be penalized for withdrawing your funds early. The following three alternatives to CDs provide more liquidity and could be a good fit for your financial needs.
1. High-Yield Savings Account
A high-yield savings account works like a traditional savings account, except that annual percentage yields (APYs) tend to be much higher. That could make it an ideal place to keep your emergency fund. Online banks tend to offer the best yields, but it's always smart to shop around and compare rates and fees to make sure a high-yield savings account is worthwhile for your needs.
Pros
- Competitive interest rates: Some high-yield savings accounts currently have rates as high as 5.40%. The average rate for a traditional savings account is just 0.46%, according to the Federal Deposit Insurance Corp. (FDIC).
- Easy access to your money: Unlike a CD, it's easy to pull money from a high-yield savings account. You can likely transfer funds online or take cash out of an ATM. That kind of liquidity could come in handy if you face a financial emergency.
- Low risk: Just like CDs and money market accounts, high-yield savings accounts are FDIC-insured for up to $250,000 per account holder, insured bank and ownership category. Credit unions provide similar coverage. That means the risk of losing money is very low.
Cons
- Missing out on higher CD rates: At the time of this writing, some CD interest rates are as high as 6.50%. That could allow you to earn $65 for every $1,000 you have in the account.
- Potential fees: Some banks and credit unions attach fees to high-yield savings accounts. That could include a monthly maintenance fee, overdraft fee, out-of-network ATM fee and more. You might also need to meet minimum account balance requirements.
- Possible withdrawal restrictions: Some financial institutions limit consumers to six free electronic transfers and withdrawals per month. That could be an issue if you need regular access to your funds.
2. Money Market Account
A money market account earns interest like a savings account but allows you to withdraw funds with greater ease. APYs vary, but they're generally higher than traditional savings accounts.
Pros
- Accessibility: The downside of a CD is that your money is locked up in the account. You can expect a penalty if you withdraw funds early. Money market accounts offer more flexibility. You can likely pay bills and make purchases online or in person with a linked checkbook or debit card.
- Higher yields than traditional savings accounts: Some money market accounts have rates up to 5.25%. That can help grow your savings faster.
- Suitable for different financial goals: A money market account can be a good holding place for your emergency fund or money you're setting aside for a home down payment, upcoming vacation or other financial goal. Either way, you'll be earning interest without trading liquidity.
Cons
- Potential minimum balance requirements: Some financial institutions may require you to maintain a minimum balance. If this is the case, you'll be charged a fee if your balance drops below that amount.
- Opening deposit requirements: While some money market accounts don't require a minimum opening deposit, others do. This could be as high as $2,500, depending on the financial institution.
- Less robust returns than CDs: You can likely find CDs that have higher yields, but again, you'd be giving up liquidity.
3. Bonds
A bond is a type of debt security. By purchasing one, you're lending money to the bond issuer, who is obligated to repay you with interest. Corporations, local municipalities and the federal government all sell bonds.
Pros
- Low risk: The chances of losing money with a bond are low, especially government bonds. "Junk bonds" carry more risk. These are high-yield corporate bonds that have a greater chance of default.
- Potential for regular income payments: The majority of bonds dole out fixed interest payments every six months. That can provide a reliable stream of income that you can spend as you wish or reinvest.
- Possible tax benefits: If you buy government bonds, your earnings may be exempt from federal income taxes. You might also avoid local and state income taxes, depending on where you live.
Cons
- Modest returns: Vanguard reports that, from 1926 to 2019, average annualized returns for bonds was 5.3%. Meanwhile, stock market returns for a 60/40 portfolio was 8.33%.
- Some bonds are callable: That means the bond issuer can repay it early, cutting you off from future income. This typically happens when interest rates are declining.
- Subject to inflation: As inflation rises, the fixed income you receive from bonds will decrease in value. You'll likely feel this more with long-term bonds.
The Bottom Line
CDs have their pros and cons. High APYs can be attractive, but be prepared to sacrifice liquidity. That can be problematic if you end up needing your money before the term ends. High-yield savings accounts, money market accounts and bonds can be good alternatives to CDs. Returns vary, but they're all considered low-risk investments.
Regardless of where you keep your money, tending to your credit health is always a top priority. A strong credit score can help you get the best rates on loans, credit cards and other types of financing. Check your credit score and credit report for free with Experian.
