Podcast 26th June 2015
More often than not the answer to the question on “What do you do with your savings” evokes a response of investments in stocks, mutual funds and bank deposits. Why bank deposits? Answer varies from convenience to sheer inertia on not looking for investment opportunities elsewhere. Unfortunately, such answers are received largely from white collar professionals, working hard to save for a quiet and easy retired life.
Every professional with investments in bank deposits have to ask himself or herself “Why Bank Deposits?” If the answer is “banks are providing the best post tax return on investments amongst all other fixed income asset classes” then it is a good investment. If the answer is anything but that, then it is time to move investments away from banks into more productive investments that will help build a corpus for securing a good financial future.
Why are bank deposits not good for your financial health? The most obvious answer here will be interest on loans, whether home loans, personal loans, credit card outstanding’s etc. are always much higher than interest on bank deposits. Banks primary function is to collect deposits and lend earning a spread. It is better to pay off loans than keep money in banks.
The second answer is that inflation is far higher than returns on bank deposits. Even though RBI has moved from WPI (Wholesale Price Index) to CPI (Consumer Price Index) for setting policy rates, which is the benchmark for banks to set deposit rates, the actual level of inflation at the retail level is much higher than official level of inflation. For example, in many cities in India, rents are hiked by 10% every year (why 10% is a mystery) but official CPI inflation is at 5%. Similarly rise in wages for household help, price of utilities and other essentials are always higher than official inflation estimates.
Banks fix deposit rates based on RBI guidance on interest rates and until 2013 when RBI set policy rates based on WPI, the difference between CPI and WPI was high and bank deposit rates were far lower than inflation at the retail level. RBI goes by official level of inflation for policy rates and banks too set deposit rates accordingly.
The third answer is for a retirement corpus to grow, investments have to grow too or have to provide an earnings stream for the future. Investments in equity can provide growth as well as regular dividend streams while investments in real estate can provide regular rental streams. Fixed income investments in small savings schemes run by the government provide a compounding factor with tax efficiency.
Mutual fund fixed income schemes are other fixed income options against bank deposits. Accrual funds such as FMPs offer long term capital gains tax advantage over bank deposits while gilt and income funds offer opportunity for earning returns from both accrual and capital gains if invested at a time when interest rates are falling. Tax free bonds that provide tax free interest are better than bank deposits.
Attend our Knowledge Workshop on Retirement Investments in a Fast Changing Dynamic World on the 4th of September 2015 at Sofitel BKC Mumbai. Please call Neelima at +919819770641 or log in to investorsareidiots.com to register. Thank you for listening in.