Should You Park Money In Fixed Deposit As Turbulence Hits Equities? - Outside View by PersonalFN

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Should You Park Money In Fixed Deposit As Turbulence Hits Equities?
Aug 14, 2019

Of all the investments instruments available, many Indians continue to favour the age-old bank fixed deposits (also known as term deposits) despite being a low-yield investment. As per the data from the RBI, term deposits grew from Rs 64 lakh crore in June 2017 quarter to Rs 72.5 lakh crore in March 2019 quarter.

This is despite the fact that there has been no significant hike in fixed deposit interest rates. On the contrary, RBI cut policy rates on several occasions during the period. Consequently, banks too lowered the term deposit rates.

In fact, the safety of principal, guaranteed returns, and ease of investment makes FD the preferred investment choice for many Indians.

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But should you consider FDs for long-term wealth creation?

The equity market has been going through a turbulent phase in the last one and a half year while the debt market too has been rife with defaults and downgrading of credit ratings. As a result, many SIP investments have given negative returns over the past two years. The volatility may continue for a while before it starts an upward trend, which is why some investors may think of moving to a stable investment avenue like FDs.

Being a low-risk investment, FDs can be considered for your short-term liquidity needs and to park your contingency fund. However, since the returns on FDs are quite low (around 6.5-7%), it is not a suitable choice for long term wealth creation. In the current calendar year 2019, the RBI has till now cut policy rate cumulatively by 110 bps. Therefore, there may be further cuts in FD rates in the future.

If you are old and nearing retirement, it makes sense to invest in safer avenues like FDs. Senior citizens can benefit from the 50 bps higher FD interest rates. But if you are younger, you may be able to handle higher risk options to earn better returns. Thus investing in diversified equity mutual funds should be your preferred choice.

To Readers Who Plan on Quitting Work Someday…

Even though markets are prone to volatility, mutual funds are your best bet for long-term wealth creation. Mutual funds have the potential to generate much higher return than FDs over a period of time, if you select the right scheme. They are more effective in countering inflation and meeting your set target.

With mutual funds, you can select among the various schemes from different categories based on your investment objective, risk appetite, and investment horizon. However, FD investment does not provide that flexibility.

To get the maximum benefit of investing in mutual fund opt for the systematic investment plan (SIP) route. When you invest via SIP, instead of a lump sum amount, you are investing a fixed amount regularly regardless of the market conditions. This enables you to get the benefit of low investment cost and the power of compounding. Additionally, it helps tackle volatility to some extent.

It is important that you select the mutual fund for investment diligently. The fund you select should match your risk profile and must help you achieve your financial objective as per the time horizon you have set.

First, you need to evaluate the consistency of the scheme's performance based on quantitative and qualitative parameters by comparing it to its benchmark and category peers. Second, shortlist the scheme that has performed consistently well compared to its benchmark and peers. The schemes selected through this process can generate high alpha over long-term and help in wealth creation.

Once you have selected the scheme after proper research stick to your investment and do not be bothered by market noise. Sell your investment only if it has been consistently performing poorly or if you have achieved your financial goal.

It is also crucial to have a personalised asset allocation based on your age and financial circumstances. Invest in a mix of assets that provide capital appreciation and capital preservation.

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Assets like equity mutual funds can enable capital appreciation, while traditional investments like FD and provident fund can aid in capital preservation. Young investors should keep a higher allocation towards assets that help in capital appreciation over a period of time. As you age, gradually increase your allocation towards assets that enable capital preservation.

Editor's Note: To find the best funds with high alpha generating potential, we have developed a 'SMART Alpha Score' model. It has an additional categoriser on top of our popular 'SMART Score' process.

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Author: Divya Grover

This article first appeared on PersonalFN here.

PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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