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Best Fixed Deposit Strategy

Best Fixed Deposit Strategy to Follow

Fixed deposits are one of the most popular deposit schemes available for Indian investors. The fixed interest rates with the safety of investment and flexible investment terms ranging from 7 days to 10 years make fixed deposit an ideal investment solution for short as well as long term investments. The popularity of fixed deposits has only increased over the years as more and more investors realise the potential for higher returns through this risk-free financial product.

FDs are offered by almost every bank operating in India, be it a public sector or private sector undertaking. There are many private non-banking financial companies (NBFCs) that offer FD scheme to customers. Usually, NBFCs offer better interest rates as compared to banks. However, they may lack credibility in terms of long term guaranteed returns that are associated with this investment.

Should I be happy with my fixed deposit scheme?

Technically, the rate of interest offered by the banks and NBFCs is the actual return you will get from FD investment. You might make different permutations and combinations to find the ideal amount and FD term to maximise your returns and finalise the plan of your choice after conducting exhaustive research. It may look like there's no more room left for further improvement.

But even in the case of fixed deposit, the interest offered by financial institutions should not be considered as the absolute law. You cannot change the rate of return but what you can do is to perform your tweaks to maximise your returns. It is important to remember that timing your deposit is an important factor for maximising your returns. Moreover, the timing factor is not limited to finding the right fixed deposit term – with some detailed planning, you can earn assured returns from multiple FD accounts, each with a different term. This is where laddering comes into play.

Enhancing your fixed deposit returns with laddering

The primary purpose of investing in a fixed deposit scheme is to earn guaranteed returns in a relatively risk-free manner when compared to equities and mutual funds. The best returns you can earn from FD is by investing for a longer period, but this is associated with a lock-in period. When you invest in a fixed deposit scheme, you have to stay invested till maturity, and in case you withdraw money from FD, banks levies hefty charges which will eventually eat up a part of your returns.

Laddering deposit is a way of splitting out your investment into multiple FD accounts to earn higher returns. This also offers liquidity at regular intervals. As the name suggests laddering deposits is cleverly splitting your fixed deposit investment into individual ladders, and you climb the ladder one step at a time. You will be able to understand this concept better with an example.

Let's assume you're an individual with less risk appetite and have a lump sum of Rs. 5 lakhs that you want to invest in a safe investment option instead of high-performing but volatile equities or mutual funds. Therefore, you start by timing your fixed deposits so that you have liquidity at periodic intervals.

You invest Rs. 1 lakh in a one-year fixed deposit, another 1 lakh in a two-year FD and so on till the fifth deposit of Rs. 1 lakh for 5-year maturity period. This means you have invested all your funds in five different FDs, each maturing one-year apart.

Next, as the one-year FD matures, you get a return of 1.07 lakh (approximately). This amount is then reinvested in a 5-year deposit, which effectively creates the 6th step of the ladder. If you are lucky, the FD rates at this point in time, maybe even higher. You do the same for two-year FD, creating 7th step and so on. By doing this, you have made sure that you will always have liquidity of funds for emergencies without having to compromise on your investment term. Another major advantage of this strategy is that you can stay on top of interest rate changes, by investing at the right time to maximise returns.

Benefits of laddering deposits

Laddering fixed deposits offer a number of benefits not limited to easy liquidity. This method will help you to control your investment at each stage while maximising the returns.

  • No premature withdrawals: Laddering fixed deposit will help you in reducing losses that may incur due to premature withdrawals. Generally, banks and NBFCs will charge premature withdrawal charges which will result in lower returns. Moreover, when interest rates go up, laddering helps you to use periodic maturity amount to reinvest at a higher rate of interest.
  • Liquidity: Apart from leveraging better interest rates, laddering also allows you to access your funds at periodic intervals. As illustrated in the example, you could ensure liquidity every year, or even six months as per your laddering strategy and financial requirements.
  • Consistent returns: Laddering deposit strategy might not help to get higher returns instantly, but it will surely ensure that you earn steady returns. Laddering strategy is also ideal for senior citizens who have a lump sum retirement fund to invest without taking much of a risk. It is important to note that laddering may or may not maximise returns but surely makes your returns consistent without having to close your fixed deposit account before maturity.

You can benefit from laddering strategy by investing in different fixed deposit accounts or spreading your investment as required by your financial goals, income, risk appetite and liquidity requirements. This diversification of your investment will help meet your financial goals by reducing the overall risk factor. Also, the laddering strategy will secure your investment from the interest rate risk, which would help you to achieve expected returns.