Fixed Deposit investors: Stagger FD investments to catch peak rates

While some portion of your money should go into longer-tenure FDs offering higher rates, diversifying across maturities is also essential

The State Bank of India (SBI) hiked the interest rate on its retail term deposits by 25-75 basis points for tenures of up to one year. With interest rates at or very close to the peak, this is a good time for fixed deposit (FD) investors to lock into current rates.

Two factors may have caused SBI to hike its FD rates.

“Credit demand has been strong, resulting in the credit-deposit ratio of banks being at elevated levels. Moreover, the Reserve Bank of India (RBI) has kept liquidity tight to rein in inflation, so banks are raising money via deposits to have liquidity on their balance sheets,” says Vishal Dhawan, chief financial planner, Plan Ahead Wealth Advisors.

 

Capitalise on current rates

To capitalise on current rates, go for FDs of longer tenures.

“Even if rates decline in the near future, you will still be booked into FDs offering higher rates,” says Renu Maheshwari, Sebi-registered investment advisor, co-founder and principal advisor, Finscholarz Wealth Managers.

However, she warns against investing too much in longer-tenure FDs.

Predicting peak interest rates is difficult. “Invest in FDs in a staggered manner over the next few months. Also, invest in FDs of different maturities to avoid reinvestment risk,” says Dhawan. This is the risk of all FDs maturing at the same time in a low interest rate environment, forcing the investor to reinvest at low rates.

Compare rates

Compare the rates offered by various banks across tenures. However, these should be apple-to-apple comparisons. “Do not compare the interest rates of large private or public-sector banks with that of cooperative banks or company FDs as the risk levels of these institutions are different,” says Maheshwari.

In chasing rates, do not spread your FD investments across too many banks.

“It makes tax reporting difficult. Moreover, after you, your family may find it difficult to trace and access all the money,” says Dhawan.

According to him, having FDs in three banks is optimal. Keep the bulk of your FDs in the major banks. “A small portion of your FD portfolio may be allocated to small finance banks to earn additional returns,” says Deepesh Raghaw, a Sebi-registered investment advisor. He suggests staying away from cooperative banks where one can lose money.

What’s the right allocation?

Allocation to FDs should depend on your financial goals. First, decide on your asset allocation, then allocate that portion of your fixed-income portfolio to FDs where you want safety and liquidity.

FDs are well suited for a few situations.

If you have a financial goal coming up in one-three years, invest the money required for it in FDs. Emergency funds may also be kept in FDs. Nowadays, FDs linked to savings accounts allow money to be withdrawn at any time without a penalty being imposed.

With FDs being taxed at slab rates, investors in lower tax brackets may park a larger portion of their fixed-income portfolio in them.

Do not keep a large portion of your long-term portfolio in FDs.

“Returns from FDs, net of taxation, may not keep pace with inflation,” says Maheshwari. Finally, be cognisant of the credit risk of the institution in whose FDs you invest.