Does the Fixed Deposit Laddering Strategy Work?

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The Bank of England (BoE) kept interest rates at a 16-year high of 5.25% but softened its stance on rate cuts, and for the first time since 2020, there was support for rate cuts at a policy meeting. The policy statement dropped its warning that "further tightening" would be required if more persistent inflation pressure emerged and instead replaced it with a statement that it will "keep under review for how long bank rate should be maintained at its current level". Markets expect the BoE to cut rates four times this year, starting as early as May. 

As interest rates are likely to peak and there is a great chance of rate cuts this year, the annualised interest rate on fixed deposits may be on a downward trend in the future. Many depositors are looking for fixed deposits to lock in the still-relatively-high interest rates and to capitalise on the last window of the current interest rate hike cycle. However, fixed deposits can only be redeemed when the deposit period ends and early redemptions during the deposit period may either be subject to penalty charges or not possible at all, thus limiting the liquidity of the funds. The laddering fixed deposit strategy is a common and effective way to manage liquidity risk during interest rate hike cycles. 

Fixed deposit laddering strategy means that the funds intended to be used as fixed deposits (i.e. the savings funds in total) are divided evenly according to the term of the deposit. For example, if you have $50,000 on hand, you can place $10,000 in fixed deposits of three months, six months, one year, two years and three years respectively. This strategy strikes a balance between choosing a longer tenor to earn a higher interest rate and having a portion of liquid assets available just in case. Regardless of the maturity periods, the depositor can maintain a certain level of liquidity while earning a higher interest rate. 

Does this strategy work in today's interest rate environment? Let's look at the curve of British government bond (GILT) yields for illustration. As of 5 February 2024, the highest yield of the curve is 5.36% for a three-month, followed by 5.24% for six months. The longer the maturity period, the lower the interest rate, hence the curve is inverted until the five-year period.  

Taking GILT yields as a reference and then looking back at fixed deposit rates, we can see that the short-term fixed deposit rates of many large banks in the UK are higher than the long-term rates, and the one-year fixed deposit rates are generally the peak of the fixed deposit rates. Therefore, a laddering fixed deposit strategy does not make sense in the current environment, as depositors are more likely to place their funds in short-term fixed deposits, and longer maturities will only be rewarded with lower fixed deposit rates. 

However, there are always exceptions. At iFAST Global Bank, the interest rates on GBP fixed deposits with five maturities (from one month to 24 months) range from 4.3% to 4.9%, creating a nice upward yield curve. Under these circumstances, the fixed deposit laddering strategy will become more viable and is definitely a better option for depositors who wish to lock in the still-high interest rates and at the same time enjoy some liquidity.