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Fixed deposits are among the most popular deposit schemes for Indian consumers. The high rates of interest for flexible tenures ranging from 7 days to 10 years make it the ideal solution for both short and long term investments. The popularity of FDs has only grown over the years as more and more consumers realize the potential for higher returns through this financial product.
Fixed deposits are offered by almost every bank operating in the country, be it a private sector one or a public sector undertaking (PSU). There are also lots of other private non-banking financial companies (NBFC) that offer fixed deposit schemes to customers. NBFCs typically give better interest rates to customers, but may lack in credibility in terms of long term assured returns that is associated with government-backed organizations.
Technically, the interest rate offered to you by a bank or an NBFC is the actual return you will get from the account. You will probably make various permutations and combinations to find the ideal deposit amount and tenure for your needs, apart from technicalities such as frequency of payouts that help in maximizing returns. You would ideally decide the product of your choice only after exhaustive research. It doesn’t look like there’s more room for improvement here, right?
But even within fixed deposits, the interest rate should not be taken as the absolute law for returns. You can perform your own tweaks to earn higher returns while ensuring liquidity at all times - a concern with FDs seeing that premature withdrawal of accounts results in reduction of returns. Timing your fixed deposit is an important element of maximizing your returns. And the timing factor isn’t limited to finding the right tenure only – with detailed planning you can save assured returns from multiple accounts, each with different maturity periods. This is where laddering deposits come into play.
Any way you look, the point of FDs is to get higher returns in a relatively risk-averse manner when compared with stock markets or mutual funds. The best returns are from long-term deposits, but these hamstring you in terms of liquidity. Fixed deposits are meant to stay invested till maturity and banks employ different charges to ensure that it stays that way.
Laddering deposits is a way of staggering out your investment into multiple fixed deposit accounts to earn high returns, while being welcomed with liquidity at regular intervals. As the name suggests, laddering deposits is basically staggering your deposits into individual ‘ladders’, and you climb the ladder one rung at a time. Okay, this may sound complicated but it’s actually not. Here’s how:
Let’s assume you have a lump sum of Rs.5 lakhs that you want to invest in a less risky fixed deposit offering interest at around 9% p.a. rather than a high-performing but volatile mutual fund. So, you start by timing your deposits so that you have liquidity at regular intervals. You invest Rs.1 lakh in a 1-year fixed deposit, another Rs.1 lakh in a 2-year FD and so on till a 5th fixed deposit of Rs.1 lakh and 5 year maturity. This means you have invested all the cash in 5 different fixed deposits, each maturing one-year apart.
Next, as the 1-year deposit matures, you get a return of Rs.1.09 lakhs. So far, so good. This amount is then invested in a 5-year deposit, which effectively creates the 6th step or rung of the ladder. If you are lucky, the rates at this point of time may be something like say 10%. You do the same for the 2-year deposit, creating a 7th step and so on. By doing this, you have ensured that you will always have sufficient liquidity for emergencies without compromising your long-term deposits. Another major advantage is that you can stay on top of rate changes, by investing at the right time and ensuring maximum returns.
Laddering deposits offer a host of benefits not limited to easy liquidity. At the core, this method will help you stay in control of your investment at all times.
Laddering deposits will help you in reducing losses from premature withdrawal. Generally, banks will charge some extra amount when you opt for premature withdrawal. With laddering deposits you can also wait for better rates in the market to invest in. As each of the ‘steps’ matures, you can invest in some other financial instrument offering higher returns as per your risk appetite.
In the last point, you could leverage better interest rates by investing in laddered deposits. You are also empowered by liquidity at regular intervals. As shown in the example, you could ensure liquidity every one year, or even every 6 months or 4 months by laddering your deposits accordingly.
Laddering might not help much in getting higher returns in a go, but it will surely ensure that your returns are steady. Laddering is ideal for senior citizens who have lump sum retirement funds to invest, as they will be ensured steady returns on a monthly, quarterly, or any other periodical frequency.
A point to note here is that laddering is not a perfect science. If rates are lower one year down the line than what you are depositing for now, then you might stand to earn lower returns. However, in the long run, laddering is more likely to offer better returns, than say a 10 year-fixed deposit that comes with a clause of premature withdrawal for extra charge.
The ideal situation where people can go for laddering deposits would be: