Since May, the Reserve Bank of India (RBI) has raised the repo rate to 225 basis points. This has led to an increase in interest rates on loans as well as fixed deposits (FD) by the bank.
From time to time, several private banks and PSUs have increased the interest on their deposits. Therefore, investors who locked in their funds at the start of the rate hike cycle lost a lot of their gains. And those who have been patient with time and invested in later stages stand to earn higher income.
But it is not known whether the cycle of interest rate hikes is over or will continue for some time to come. A better option, therefore, is to opt for the fixed deposit (FD) ladder.
What is FD laddering?
When you expect fixed deposit (FD) interest rates to rise, or at least change, in the near future — then instead of booking one deposit for the long term — it is recommended to book a series of fixed deposits ( FD) for one period. This process of ordering multiple FDs is known as FD laddering.
Let us understand this with the help of an example. Suppose Mr A wants to invest ₹5 lakh in fixed deposits. But he wants to get the highest interest rate, that is to dominate the market.
There are two options: One is investment ₹5 lakh in one deposit considering that the interest rate will be reduced later. And the second option is to open several deposits, said five, the ₹one lakh from several tenors to make the most of rising interest rates.
1. ₹FD one lakh starting from December 2022 for six months.
2. ₹One lakh FD will start from December 2022 for one year.
3. ₹FD one lakh starting from December 2022 for two years.
4. ₹FD one lakh will start from December 2022 for three years.
Moreover, it is important to invest more for the duration of the first FD which matures in June 2023, say two years.
The second FD which matures in December 2023 should be further leveraged for two years. The third FD which matures in December 2024 can be used for another three years and finally, the fourth FD is used for another three years.
In this way, investors can get different interest rates on different stocks.
While one might wonder if a 5 or 10 margin increase won’t make a big difference in overall returns, a series of rate hikes certainly does. will make a significant difference to the total return.
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First published: December 24, 2022, 11:16 am IST