Fixed deposit interest rates have risen steadily since May 2022, when the Reserve Bank of India (RBI) increased the repo rate to offset inflation. As a result of the recurring repo rate hikes, there has been a 2.25% overall increase in interest rates since then. However, some indications show that the momentum has died down now.
This causes a dilemma – whether to wait for the next fixed deposit interest rate hike or to choose a long term fixed deposit. The possibility of a further hike cannot be dismissed. Also, individuals who open a fixed deposit account and there is a hike later on, could result in them regretting their decision. Alternatively, in case the individual keeps waiting for another hike and that does not happen, they will lose out on the current interest rate. The first thing that an individual has to do is understand the current fixed deposits interest rates and its anticipated movement to come up with the right strategy for fixed deposit.
Although the policy rates are probably closer to their apex, it will take some time before these increases are reflected in fixed deposit interest rates. The increased interest rate is passed on by lenders to their debtors. The expected increase in interest rate in the upcoming months may not be very significant because experts agree that the majority of interest rate increase is already done and delivered into the fixed deposit rates. Although the banks have increased their fixed deposit, their long-term FD rates have not kept up with this transfer. A majority of banks and financial institutions give the highest rate for fixed deposits of 2-3 years.
The enduring nature of the high interest rate policy will determine whether a high rate will be offered for a longer-term fixed deposit tenor, such as 5 years or above. If the high interest rate environment persists for an extended period of time, bank fixed deposits will face heavy competition from higher interest rates on shorter-term small savings schemes. This might force the banks to increase their interest rates on longer-term fixed deposits.
The RBI’s recent bulletin, published in March 2023, emphasised the disparity between the repo rate hike and the rate increases banks made to their deposits. The RBI had previously lowered the repo rate by 250 bps over an extended period between February 2019 and March 2022,when the interest rate was falling. The repo rate was raised by the RBI by 250 bps between May 2022 and February 2023, but only 33% of this rise was passed on to retail deposits during this time.
What Can You Do?
There are a few things that you can do to make a smart move in such a scenario to maximise your returns. Some of them are:
- Make a fixed deposit ladder for three years: Many banks and financial institutions are offering high fixed deposit interest rates for the three year tenor. Make sure to take advantage of this and make a fixed deposit ladder for 3 years for better returns. In order to do this, divide your amount into three portions. After one year, when the first FD matures, reinvest that for three years.
- Use partial surplus to open an FD: Waiting for the next interest rate peak is a very risky move. Since the interest rates have gone up significantly, you can divide your deposit amount into three equal parts. Utilise the first part right now, book an FD with the second part after six months and the third part after a year.
- Break your old fixed deposits: In case you have a lot of old fixed deposits locked in at very low interest rates, it is advisable to break them even if there is a penalty. You can reinvest them using the current higher interest rate to get higher returns. Do not break all your fixed deposits in one go. If you have only one big fixed deposit, first break it and utilise it in the method mentioned above by dividing it into three parts.
- Be wary of small financial institutions: Small banks are now offering fixed deposit interest rates of up to 9%, which can be very tempting. However, it is important to be careful in the case of such schemes. There is an insurance cover of ₹5 Lakhs- including the initial deposit amount as well as interest. If your deposit amount is greater than this, it is recommended to break it into smaller FDs and open it in the name of your spouse, children, etc.
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