How to make Fixed Deposits effectively work for you?

It is a universal desire of most humans to generate and keep accumulating wealth. Investing the available capital in hand in existing asset classes is a starting point for many.

We live in a world which is increasingly discarding the “old” ways or objects for the “new” and in most cases for the right reasons probably. However while values are considered to be timeless, wine is considered to improve with age. So not everything which is “old” is without significance.

In-fact it can be interesting if we look at the “old” with different eyes as it can open up new possibilities.

You would have heard of this catch-phrase: Winners do not do different things, they do it differently!!

So let’s try something different with our old friend the “Fixed Deposits”. Let’s re-look at it with different eyes and rediscover the power of the Fixed Deposits.

For this blog, Fixed Deposits include both – the ones offered by Banks as well as by Private Companies.

Common Reservations about the Fixed Deposits

Fixed Deposit Returns much lower than other asset classes

While Fixed Deposit returns are capped; neither more nor less, in case of other asset classes returns can be more and at times less as well. So as far as Fixed Deposits are concerned there is a certainty about the redemption of principal and interest.

The Real returns are even lower for Fixed Deposit Returns when adjusted for inflation 

Inflation is a factor which affects almost all asset classes unless the returns are bench-marked to an inflation index. So yes inflation adjusted returns are lower. But we shall discuss in subsequent blogs as to how inflation can be factored in.

Re-look at Fixed Deposits

  1. Can serve to meet specific life goals like child education, child marriage, buying a house and in meeting unforeseen emergencies
  2. Can act as a regular feed to other asset classes: equity or debt depending on the relative market cycle so that you are able to buy them at a relatively lower price (or if I were to say “Time the Market”)
  3. Can also act as a cushion to fully take care of or support your regular EMI payouts

However the above is possible only when you reinvent the way you use your fixed deposit strategy.

How to make Fixed Deposits effectively work for you:

  • Judicious Spreading of Risk:  It is advisable to spread your fixed deposit investments across a pool of banks and private corporates. While deciding about banks one could look at a combination of nationalized, private and well run co-operative banks. While deciding about private corporates one can invest in companies with excellent credit ratings  present in progressive, stable industries.
  • Mix of Multiple Tenors: It is advisable to look at a mix of tenors while investing in Fixed Deposits. This is so because when you lock in a fixed deposit for a particular tenor you forego opportunities for interest rate revisions and other asset class opportunities during that period. There is no one size fit all rule that tenor should be longer or shorter. It depends on your goals and your ability to foresee investing opportunities emerging going forward.
  • Whether to compound interest or not: It is common logic that if you compound your interest rates on a fixed deposit the effective yield is higher than the non-compounded interest rate. However the flip side is that compounding will take away the opportunity to re-invest the regular interest at higher rates if the opportunities so arise.
  • Hiring a Smart Financial Planner: Working with a financial planner though not imperative, is advisable if you are not actively passionate about investing. For a minimal fee, one could re-energize the investment portfolio.

In my next blog we shall discuss more about how to spread your Fixed Deposits across tenors so that you can not only ensure high liquidity but also be in a position to keep resetting your interest rates regularly while also being in a position to take advantage of equity / debt market down cycles to invest in equities / debt at a relatively low cost.

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