The Good old days of one of the most Traditional & Favourites Investment product for Indian Investors- Fixed Deposits are over as it has started losing its charm and the Equity is the New Darling of Indian Markets as more and more investors have started shifting to these Investment instruments to park their Hard Earned Money.
Also, worldwide the Interest Rates have been falling consistently since the last Decade, whereas in some countries the Interest Rates are Negative.
As the Interest Rates fall, the Bank Fixed Deposit rates also fall simultaneously. The falling rates have already shifted the Investor base to Equities in the Advanced and Developed Economies whereas, in India, the Equity Markets are not yet as Matured as Developed countries.
As we can see from the Above Graphs, the RBIhas constantly decreased Interest Rates since last 20 Years due to various Economic challenges and the changing Demographics, whereas in the last 1 Year due to the unprecedented COVID Pandemic, the RBI has cut Repo-Rates from 6% to 4%, i.e. decrease of 200 Basis Points.
Today, the shift of Asset allocation from Fixed Income to Equities has been such, that many Economies have matured investors and the Markets have encouraged them to invest in other asset classes rather than the Traditional Bank Deposits, Gold, etc.
5 Risks of Investing in Bank FDs:
- Liquidity Risk:
Bank FDs can be easily liquidated. However, a penalty could be leveled. Tax saver FDs cannot be withdrawn before completion of the 5-year tenure. However, with new schemes being introduced by the Banks, many of such investments can be misleading and one should be aware of the features of the product before investing in one.
- Default Risk:
Bank defaults are rare but possible. However, deposit amount including interest of up to 5 lakh per person per bank is guaranteed by the Deposit Insurance and Credit Guarantee Corporation(DICGC), and any amount over that is subject to default risk. With increasing intensity in the Banking & Finance sector, there is always a risk of Major default reporting by the Financial Lenders.
- Inflation Risk:
Inflation is one of the Major evils for one’s investment as it decreases the Value of Money overtime and the Potential Returns, also known as ‘Real Rate of Return’ in the hands of investor are next to zero or even negative in some cases if the investment product does not deliver inflation-beating returns overtime. Hence, one needs to consider these aspects too as the Current FD Rates are nearly 4-6% on average which turns the Potential Return on Investment to not just zero but Negative.
- Interest Rate Risk:
Bank FDs carry the risk of being locked in for a long tenure at a low rate of return, which may leave the Investor with nearly zero returns in the Future as the Inflation eats up the negligible returns provided by FD. One should consider investing in other alternatives for Fixed Income investment products which would land up with at least considerable returns for the investor.
- Reinvestment Risk:
In a falling interest rate environment, FDs that are due to mature will get offered a lower rate at the time of maturity, which means that the Returns will always depend on the current market situation which ultimately would make the investment uncertain. If one can consume such risk, then they should consider better Investment avenues with similar risks but much Higher Returns compared to traditional Fixed Deposits.