Home buyers may be disgruntled with the spate of rate hikes by the Reserve Bank of India (RBI). But there are others who are all excited - the conservative fixed income investors. The reigning fixed deposit (FD) rates offered by banks are the highest in recent times. In the current turbulent stock markets and skyrocketing gold price, the lure of assured handsome FD returns is fathomable.
Some banks offer as much as 10 per cent on deposit tenure of one to two years. Most banks offer around 9.5 per cent for three to five year tenures. You must choose the tenure depending on your liquidity requirements, risk appetite and financial goals. Those who have only long-term goals like saving for their children's education or marriage can lock their money in bank FDs that give the highest returns over a long tenure. If you need money in the next one year, select the deposit tenure of a year.
An investor's risk appetite is a major factor that determines his exposure to varied instruments ranging from fixed income to volatile equity. A person with moderate risk appetite may reduce his exposure to equity now and invest in lucrative bank FDs. He still maintains equity investments with the hope that they will bounce back in the coming months and yield manifolds. Senior citizens or the more conservative investors shun market turbulence and prefer to have a large share of their money invested in FDs.
Further, spiraling inflation has compounded the woes of small investors. High food inflation coupled with rising fuel prices has chewed away a large part of the disposable incomes. Technically, returns from FDs in times of high inflation (inflation adjusted returns) aren't so enticing for aggressive investors. However, with the probability of further increases in rates, bank FDs are an option worth exploring.
Fixed income products such as bank FDs that are held for long periods carry with them a formidable reinvestment risk. This risk crops from the uncertainty over future interest rates. What can an investor do when his FD matures and he finds out that the current rates offered for similar products is much lower?
One can invest systematically in fixed income products with different maturities. This technique is called laddering. It not only minimises reinvestment risk but also allows an investor to have cash flows at regular intervals. Parking your entire money in a FD with a fixed maturity date is not advisable. If the interest rates go up, you will be locked in the current FD rate and cannot benefit from the higher rate. On the contrary, if the rates go down you will be glad you locked your money in the FD at a good rate.
Since it is impossible to determine what would be the interest rates after say 2-3 years, laddering is a safe and prudent way to invest in FDs.
Banks offer a higher interest rate on tenures of one to two years. Investors with a low risk appetite will find the assured returns of a fixed deposit attractive in the present market conditions. Long tenure deposits carry a risk – the rate prevailing at the time of maturity and applicable on renewal may be lower than the current rate on offer.
For more information visit to: http://fixeddepositindia.blogspot.com/
