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Is it time to look beyond bank FDs?

Debt funds hold the advantage in tax-adjusted returns versus bank FDs

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The brouhaha over the safety of bank deposits has reached dizzying heights in the backdrop of the bank ‘bail-in’ provision controversy. While the government has swiftly moved in to allay fears, the truth is Indians’ obsession with bank fixed deposits (FDs) needs to be checked. Despite a plethora of avenues to put their money in, bank FDs remain the most popular pick. Is there a need to consider alternatives, and if so what are they?

DNA Money talks with experts to find the answers.  

The FD factor: Since there is an implicit guarantee of the government in PSU banks, investors do not mind keeping the money in bank FDs even though interest rates have dropped. However, the furore over the bail-in provision in The Financial Resolution and Deposit Insurance (FRDI) Bill has put the spotlight on two issues - the safety of FDs if the bank goes kaput, and low deposit insurance.

Dhananjay Sinha, head of institutional research, Emkay Global says, “As per our understanding, the Bill talks about certain bail in instrument for which there can be annulment of liabilities or terms of the liability can be changed by the relevant financial institutions. However, subsection (5) of Section 52 also states that the financial institutions have to identify the bail instrument (i.e. the liabilities) that can be subject to such alterations. Hence, in our view, there is no specific risk to bank deposits.”

Obviously, there will be a waterfall/hierarchy for bail in, and depositors if at all, should ideally not figure on top of the chart in terms of loss absorption.

At present, the Deposit Insurance and Credit Guarantee Corporation (DICGC) insures all deposits at all commercial banks and cooperative banks. Each depositor in a bank is insured up to just Rs 1 lakh for both principal and interest amount. With Rs 1 lakh being a low amount given the current living standards, the need for bigger protection is being felt.

Ajit Dayal, an investment and economic observer, said, “Now they should increase it to Rs 10 lakh and not leave it open and vague. Furthermore, the very concept of a depositor being liable for errors of judgment by a bank and being considered for a bail in with or without their consent is ridiculous. The government should make it very clear in bold print - not fine print - that this will never happen. Individuals who want safety in their investments have already been punished with low interest rates that do not cover the increase in the cost of living.”

Viable alternatives: The bank deposit has been the instrument of choice for generations. However, it is becoming harder to ignore the attractiveness of other alternatives.

Debt funds are as safe as bank FDs, argues Lakshmi Iyer, chief investment officer (debt) and head products, Kotak Mahindra AMC .”It’s safe as in fixed income you can’t lose capital unless there is credit default. Most debt schemes invest in high-grade debt thereby reducing credit risk to a large extent. The MF industry overall has managed credit risk very well and hence suited for an FD mindset type investor too,” points out Iyer, who oversees assets worth over Rs 75,000 crore. Debt funds hold the advantage in tax-adjusted returns versus bank FDs.

Corporate deposits are another substitute, but the higher 1-3% extra interest comes with higher risk too. Financial problems for the company can mean your interest pay-outs may be delayed. “If the company has a sound business model and is doing well, then your money in corporate deposits is safe. You get higher interest rate, but only if you can stomach the higher risk,” says Vishal Gupta, a financial consultant.

Government bonds score primarily for its zero default risk. Every penny invested in such instrument is the direct liability of the government itself. The 8% Government of India (GoI) savings (taxable) bonds are available for purchase by individuals on tap and have lock-in of six years. Steps are also being taken to allow retail investors to buy GoI securities in the primary market. Stock exchanges, in addition to scheduled banks and bond houses, are permitted to act as aggregators/facilitators for retail investor bids in the non-competitive segment for the auction of dated securities and treasury bills, Reserve Bank of India has said.

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