For long, bank fixed deposits (FDs) have been one of the most preferred investment choices among the majority. Ease of understanding and guaranteed returns made FDs the preferred financial instrument for a chunk of investors. Without any substantial risk, FDs offered peace of mind against market volatility.
However, of late, FD rates have gone south and if observed closely, their real rate of returns is the negative territory, which warrants investing in better alternatives.
Real rate of return is the return earned over and above inflation. Following the COVID-19 pandemic, the Reserve Bank of India came up with a long list of fiscal measures to inject liquidity in the system, improve investors’ sentiment and keep the wheels of production moving.
One such measure was the cut in repo rate. This is the rate at which the Central bank lends to other banks, and at present it stands at 4%. The lowest since 2000, this made lending less expensive for banks as a result of which most banks cut down their deposit rates.
India’s leading PSU bank now offers an interest rate of meagre 4.9% for deposits ranging between 1 year and up to less than 2 years from the earlier 5.1%. Interest rate of FDs maturing in 2 years to less than 3 years has been pegged at 5.1%.
With retail inflation standing at 7.61% as of October 2020, the actual rate of return is the negative zone. That’s not all. Interest from FDs are fully taxable, which further brings down their actual returns, more so if you are in the highest tax bracket.
With ample liquidity at their disposal, it will not be a surprise in banks further reduce their deposit rates, waning popularity of this invest vehicle.
To counter the negative rate of returns from FDs, it’s vital to invest in instruments that have the potential to offer inflation-indexed returns, and this is where equity is your best bet. Though volatile in the short-term, this asset class has handsomely rewarded those who had the patience to invest in it with a long-term approach.
In the recent market rally, when indices touched record highs, those who held on to their equity investments following the carnage in March made sizeable gains. A prudent way to invest in equities is through systematic investment plans (SIPs) in mutual funds. SIPs not only help you remain invested across market cycles but also ensure you buy more units at a lesser price when the markets are down.
Also, investing in equities via mutual funds provide diversification, a core tenant of investment. Further, equity mutual funds enjoy a better tax treatment compared to FDs. If redeemed within a year, the gains are treated as short-term and attract a 15% tax. On the other hand, gains above Rs. 1 lakh are classified as long-term and are taxed at 10%.
If however, you still feel nervy about investing in equities and want assured income, you can look forward to fixed-rate bonds that offer coupon rates, similar to interest rates of bank FDs, which remain constant throughout the bond’s tenure.
Source: Zee Business