Fixed deposits can lose value


“Inflation is when you pay fifteen dollars for the ten-dollar haircut you used to get for five dollars when you had hair.” Sam Ewig



Middle-class Indians have traditionally shied away from equity investments. According to RBI data, only 5% of financial assets are invested in equities versus 47% in bank deposits or postal schemes. Safety and security of capital are primary emotional needs driving families towards term deposits, along with the somewhat mistaken belief that you can make money grow with fixed deposits.

But do you know that fixed deposits lose value over the long term? The value loss occurs due to the effects of inflation and taxes. Let us explain.

In June 2016, the average bank deposit was yielding between 7 and 7.5% interest. At the same time, retail inflation was 5.77 %. Inflation means you have to pay more for the same things. Money has lost value since it cannot buy the same amount of goods or services as the previous period. After accounting for inflation and taxes. Investors in the 10% tax bracket earned a mere 1%. Those in the highest tax bracket lost .5%.

The features of fixed deposits are safety and predictability of returns. Savvy investors can earn better returns for their short-term fund requirements of less than five years by adding debt funds to their savings mix. The main advantages to using debt funds are slightly higher returns than bank fixed deposits and tax efficiency. Income from debt funds held for more than three years taxed at the long-term capital gains rate, currently at 20%. Investors can benefit from inflation indexation to lower their tax outgo. Income from fixed deposits, on the other hand, are added to income and taxed at the marginal tax rate.

Two relatively low-risk avenues to park short-term funds are liquid funds and Ultra Short Term Debt funds. Liquid funds are an alternative to money idling in savings bank accounts. These funds invest in Treasury bills, corporate debt such as high-quality commercial paper and certificates of deposits, whose maturity is less than ninety-one days. Interest rate risk is low due to the short maturity period. Withdrawal is easy and hassles free. Liquid funds earn between 7-8% vs. savings bank rates of around 4-5%.

Ultra Short Term Funds are similar to liquid funds except that they invest in debt instruments of maturity between ninety-one days to a year. UST Funds are an alternative to short-term fixed deposits. No-load funds do not charge any penalty on withdrawal, unlike fixed deposits. While the three-year returns on Ultra Short Term funds and fixed deposits are similar at around 8.5%, UST funds win due to their better tax efficiency. For an investor in the 30% tax bracket, they add up to 2% more returns at today’s interest rate

Costs of education, housing, healthcare are all racing away more than inflation. Without financial savings that beat inflation by a decent margin, it will be tough for anyone to meet their financial goals. Calculated risks are necessary to get better returns.

Middle Class to Money Class

Ben Graham, my friend, and teacher, long ago described the mental attitude toward market fluctuations that I believe to be most conducive to investment success. He said that you should imagine market quotations as coming from a remarkably accommodating fellow named Mr. Market who is your partner in a private business. Without fail, Mr. Market appears daily and names a price at which he will either buy your interest or sell you his.”
– Warren Buffett

Why another blog on stock market investing, that too from a normal couple like us you may ask? We are not Dalal Street elite and certainly far from seeing success like Rakesh Jhunjunwala or Parag Parikh. Why even bother?

We started this blog to show that average investors are making a big mistake by shying away from equities, and our experience proves that success in the stock market is not really out of one’s reach.

Equity investing was our ticket to financial freedom. The stock market is your friend if you understand the rules and play a smart game taking a long-term view.

At the time we started investing, we gravitated to FDs like most fellow Indians. Fixed deposits are easy to understand, are risk-free, they come with expected returns, and they were the only investments that our parents had ever made. Boy! That did not consider Mr. Inflation, chipping away at the value of money. We dabbled in precious metals, real estate with mixed results and finally met Mr. Market.

Investing in equities was by no means easy. We had to learn a lot and burnt our fingers on some bad investments, luckily not too much. In the end, it was worth it, and we continue to have a significant equity bias.

Equity investing is not just about facts and numbers. It is equally about conquering your fears and emotions. There is no gain without pain, and the stock market is a great teacher. It is easy to be glib about the benefits of stocks when they are going up, but having the same belief when the stock you just bought is down twenty percent is the real test of your investing mettle.

It is crystal clear that with the vagaries of the job market, scrimping and saving is not enough. In these days of rapid change, building wealth and working towards financial independence is imperative. We must learn to make money work for us and not the other way around. In this blog, we will describe why the Indian middle class should invest in equities and generate good returns. We will describe our stock market philosophy built on a few simple rules. You can create a system too that works for you using these tips.

We must develop good money habits to secure our financial future. In this blog, we will write about money habits that have worked for us, and we are confident that they will work for you. The middle class has lived a lifestyle of living from pay-check to pay-check with little freedom to enjoy the life that they want for too long. True financial freedom is the way to achieve your dreams and pursue your passions. As Robert Kiyosaki said in his classic Rich Dad Poor Dad, “It’s more important to grow your income than cut your expenses. It’s more important to grow your spirit than cut your dreams.” Now get out there and achieve your dreams. Enjoy the journey Middle Class to Money Class!