FD rates are rising, should you invest?

FD rates are rising, should you invest?

The first month of 2011 has brought good news for senior citizens and pensioners. Fixed deposit (FD) interest rates are on fire. At least 11 banks have hiked interest rates since the beginning of the year across various tenors.

The latest was Dhanlaxmi Bank Ltd, which on Wednesday hiked its term deposit rates by up to 125 basis points (bps). One basis point is one-hundredth of a percentage point.

Also See | Current rates (Graphic)

Which are these banks?

Private sector banks to hike fixed deposit rates since January are ING Vysya Bank Ltd, IndusInd Bank Ltd, Kotak Mahindra Bank Ltd and HDFC Bank Ltd. Even state-run banks have increased rates. These are Bank of Baroda, IDBI Bank Ltd, Oriental Bank of Commerce (OBC), State Bank of Patiala, Bank of India, Bank of Maharashtra and Dena Bank.

While most banks have hiked rates by 25-50 bps depending on the tenor of the deposit, a few have hiked it by as much as 125 bps. For instance, ING Vysya Bank and OBC have hiked rates by 25-50 bps, but HDFC Bank depositors can now enjoy a rate that is higher by 125 bps, depending on the deposit tenor.

What happened

Last year saw high inflation hovering along with a high growth rate, which led Reserve Bank of India (RBI) to signal a tighter monetary policy through a series of rate hikes. As a result, repo rate, at which banks borrow from RBI, has gone up by 150 bps in the last one year. The reverse repo rate, at which RBI lends money to banks, is up by 200 bps over the same period.

The FD rates rose by 100-200 bps in the last six months of 2010 and experts believe the uptrend will continue for some more time.

Invest or wait

In the next monetary policy, to be announced on 25 January, RBI is expected to hike policy rates once again.

At a recent press conference, Moses Harding, head (global markets group), IndusInd Bank, said, “In the upcoming credit policy, RBI will not disappoint the market. We expect the policy rates to be hiked by a quarter to half per cent. We expect RBI to take a moderate stance and not an aggressive stance."

Tightening of policy rates will definitely lead to another round of hike as far as FD rates are concerned. Says Joseph Thomas, head (investment advisory and financial planning), Aditya Birla Money Ltd, “Though FD rates are high now, they haven’t peaked yet. FD rates could go up by another half percentage point in the near future keeping in mind that RBI hikes policy rates."

So should you invest in FDs now or wait for the next round of hike? Says Suresh Sadagopan, certified financial planner, Ladder7 Financial Advisors, “It is possible that FD rates could go up by 25-50 bps in future after RBI tightens policy rates but it will not happen immediately. It usually takes around a month or so before FDs rate will increase. If someone can wait for a month or more, investing in an FD later at a marginally higher rate will do."

If you are looking to invest in FDs immediately, this may be the right time. Says Thomas, “This is the highest rate FDs have offered in the last three to four years. So someone who is a defensive investor and wants to invest in an FD, could enter."

For senior citizens, some banks are offering FD rates up to 10% per annum. Few debt instruments will give returns as high as these.

Even those who have idle cash lying in savings account can consider opening an FD. Says Sadagopan, “For those who have money lying idle in their accounts, these rates are very good. It’s good to lock-in right now at the available rates."

Should you break existing low-rate FD

If you already have your money parked in an FD that offers lower rates, what should you do? Breaking an FD usually comes at a cost. Banks usually lower the FD interest rate by 0.5-1% per annum to break an FD. But if you reinvest in an FD with the same bank, banks usually waive the fee.

The penalty for breaking an FD varies from bank to bank, so you need to take that into account before taking a decision. Says Sadagopan, “If you are invested in an FD that gives 7.5-8%, it makes sense to shift to a higher rate of 9.75-10%, but the cost and benefit has to be taken into account. Breaking a lower-rate FD and investing in a higher rate depends on case to case."

However, if your FD is giving high returns already, it makes sense to wait for a month and see where the rates go.

Says Thomas: “The liquidity situation is tight and banks are in need of funds. The demand for credit is good and banks’ loan book is growing at 20%, while deposit growth is 15%. Banks need to tide over the gulf between deposit growth and credit growth. Banks will have to offer better rates to attract deposits and FD rates are expected to increase."

Mint Money take

If you have any idle cash, go ahead and invest. But if you can wait for a month, you may be able to get even higher rates.

Those who are already in an FD and want to shift to a higher rate should calculate the cost before switching.

Graphic by Ahmed Raza Khan; illustration by Shyamal Banerjee/Mint