Choose instruments with a higher lock-in period to get better returns

Last week, the country’s largest bank – State Bank of India (SBI) – cut the marginal cost of lending rate by five basis points, which is good news for borrowers. But it slashed deposit rates by 10-50 basis points. Clearly, fixed deposit (FD) investors would take a bigger knock. Others like Bank of Baroda have also revised their rates downwards. And there are expectations that with banks moving to repo-based lending rates for retail and micro small and medium-scale enterprises, based on the Reserve Bank of India’s diktat, deposit rates will come under further pressure.  In such a scenario, investors need to take some calculated risks. Here are some of the options they should consider. 

Experts say this is still a good time to get locked into good rates before other banks also start cutting them aggressively (see table of banks offering FD high rates). While hunting for good rates, however, you should also bear in mind the stability of the bank, and hence take limited exposure to FDs of small finance banks.

As a strategy to deal with reinvestment risk, investors should ladder their fixed deposit portfolios. They should invest in products of different tenures because that will help average out the rate at which he reinvests his deposits (since interest rates tend to move in cycles). There are other options, of course. But they would come with some amount of risk. 

The alternatives: Depending on your investment horizon, look at other debt instruments. Sousthav Chakrabarty, co-founder and chief executive officer, Capital Quotient says: “Investors will have to look at higher-yielding corporate deposits and corporate bonds. They may have to go into AA-rated papers and even A-rated papers, depending on their risk appetite.” 

In case you are a conservative investor, Renu Maheshwari, Sebi-registered investment advisor, advises sticking to short-to-medium-term debt funds and corporate bond funds. For those who are willing to take higher risk, Maheshwari recommends credit risk funds, which can potentially give good returns. But given that these funds have been under the cloud due to the failure or delay by many companies to repay, it would better if you restrict your exposure. Nisreen Mamaji, Mumbai-based certified financial planner, Moneyworks Financial Advisors suggests matching the average maturity of the debt fund with one’s investment horizon. 

Fixed maturity plans (FMPs): A lot of fund houses launch FMPs during this period because of the tax advantage that they give. That is, there will be 14-month, 26-month or other kinds of plans that will lock in your money for slightly more than two or three years so that there is a double indexation benefit. Says Mamaji: “By launching FMPs towards the fag end of the financial year, fund houses help investors claim inflation indexation benefit for one extra year.” For instance, if FMP has a duration of 1,159 days in March 2020. Investors can claim inflation indexation benefit for four years – 2019-20, 2020-21, 2021-22 and 2022-23 even though the investments would be held for only a little more than three years between March 2020 and April 2022.

Adds Chakrabarty: “At the time of investing, you know the indicative yield on the portfolio. It is suited for those kinds of investors who do not want any volatility in returns. Through FMPs, they can know on day one the kind of returns that they can hope to achieve. The actual return they earn will be very close to the indicative yield on the FMP.” 

Tenure versus returns: There are many small savings scheme products that are offering over 7 per cent: five-year time deposit (7.7 per cent), Senior Citizen Savings scheme (8.6 per cent), National Savings Certificate (7.9 per cent), Kisan Vikas Patra (7.9 per cent) and Sukanya Samridhi Account Scheme (8.4 per cent). But all of them have a lock-in period. 

For senior or risk-averse citizens, an appropriate asset allocation mix, with even some amount of equity for long-term money, may help. Maheshwari says, “The right asset allocation is the only way senior citizens will be able to live in comfort during retirement.” Chakrabarty has a strategy: “Suppose that most of their money is in a certain bank. They may buy the bonds issued by that bank. Buying a bond is a better way of investing. Bonds are secured. If a bank is wound up, bondholders will have priority access to money over deposit holders. Bonds typically have a higher coupon than fixed deposits.”