Fixed income: Small savings get attractive as banks cut FD rates

At a time when debt funds are reporting wealth erosion, investors are increasingly looking at bank deposits to park money. Aggregate deposits at the end of June this year grew 10.3% as compared with 8.4% during the same time last year. In contrast, debt funds have seen outflows of `1.7 lakh crore in June alone.

In June, the RBI’s Monetary Policy Committee has changed its stance to “accommodative” from “neutral”, as the central bank is concerned about growth and is prepared to use interest rates and liquidity to boost demand. Also, as banks have been reducing interest rates on deposits, investors should look at investing in bank deposits for a longer tenure.

Banks reduce FD rates

Last week, State Bank of India reduced its fixed deposit (FD) interest rates by up to 75 basis points across all tenures. The bank has sharply cut interest rate on short-term deposits of less than a year. On seven to 45 days tenure, the bank has cut the rate from 5.75% to 5%.

On 46 days to 179 days tenure, the bank has reduced the interest rate to 5.75% from 6.25%. For deposits ranging from one year to less than two years, the bank has reduced the interest rates from 7% to 6.8%. For FDs maturing in three years to less than five years, the bank has reduced the interest rate from 6.7% to 6.6% and for deposits over five years, it has cut the rates from 6.6% to 6.5%.

Even in May this year the country’s biggest lender had reduced interest rates on fixed deposits for some select maturities. Private sector banks such as Kotak Mahindra Bank, HDFC Bank and Axis Bank, too, have reduced their interest rates for deposits.

A recent report by CARE Ratings says bank deposit growth will benefit partly from the present crisis in non-banking financial companies where debt funds have been impacted and households are likely to move back to bank deposits. However, lowering of rates will make deposits less attractive for savers.

Small savings become attractive

Risk-averse investors are finding investing in post office deposits more lucrative. For instance, the interest rate on one-year, two-year and three-year time deposits is 6.9%. For five-year deposits, the current interest rate is 7.7%. Interest rate on Public Provident Fund (PPF) is 7.9%, 5-year NSC is 7.9%. Sukanya Samriddhi Accounts will get interest rate of 8.4% per annum.

In post office time deposits, there is no limit for investment and any number of accounts can be opened in any post office across the country. For individuals, PPF is the most preferred investment option and is tax-exempt at all stages. A resident Indian can open a PPF account and the maximum investment limit is Rs 1.5 lakh. The PPF account matures after 15 years and can be renewed every five years thereafter. Non-residents cannot open a new account, but can continue their existing account till its maturity, without extensions.

The 5-year monthly income scheme (MIS) is one of the popular investment tools for those seeking a regular income flow every month. On a single account, one an invest up to Rs 4.5 lakh and up to Rs 9 lakh in the case of a joint account. The interest rate is 7.6%. For those who want to reinvest the monthly interest income, they can open a recurring deposit account for five years, which will give an interest of 7.2% compounded quarterly.

Be cautious of liquid funds, company deposits

While company deposits may give higher returns to investors, they have become risky as they can default on payment of interest and even principal. A host of real estate companies have defaulted on repayments in the last couple of years and now even non-banking financial companies are defaulting.

For instance, liquidity-starved Dewan Housing Finance Ltd (DHFL) has stopped all premature withdrawals of its deposits. It has also stopped accepting fresh public deposits and renewals of existing deposits. The company’s fixed deposit liability is Rs 12,000 crore, which has also been downgraded by the rating agencies.

Company fixed deposits are unsecured loans, where repayment of principal and interest are not guaranteed. In case of any default or delay, investors have little recourse. An investor must analyse the financial statements, performance of the company and its management to take an informed decision before investing in company deposits.

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