Is investing in Corporate FDs a good option to build your corpus?

November 23, 2021 11:40 AM

A corporate FD is similar to a bank FD but gives you a better return with low-risk.

Do not fall prey to those companies which are offering very high returns, where the risk-reward is unrealistic.

Money doesn’t grow on trees, but the right savings and investment plans can help it grow. The pandemic has triggered a great deal of uncertainty and risk aversion in the way we invest our hard-earned money. Many of us want to turn away from high-risk instruments or lower our exposure to them while increasing our low-risk investments. Debt instruments are considered safe and include bonds, debentures, certificates of deposits, debt funds, fixed deposits, etc.

Keeping your money in a bank is safe, but your savings account will give you a mere 3.5% return. One way to diversify your corpus is bank FDs and corporate FDs. Bank FDs offer a return of 5-5.5%, whereas corporate FDs earn higher returns while maintaining low-risk levels. A corporate FD is similar to a bank FD but gives you a better return with low-risk. Since most of the instruments are rated, corporate fixed deposits have a high degree of safety level. Corporates offer returns of 7.5%-8.5% for a 1 year to 5 year deposit and 8-9% on a cumulative basis.

How do you choose the right company to invest in?

You need to consider 3 parameters:

⦁ Ratings: These term deposits are usually rated for their credibility by a few rating agencies, namely ICRA, CARE, CRISIL, etc. Generally, companies with a AA to AAA credit rating indicate a moderate to high safety of interest payment. As you go lower in the rating chart, the degree of safety reduces.

⦁ Parentage: While assessing the quality of the corporate, we need to factor in the likely support from a higher-rated parent in the event of distress. The number of years in existence and corporate governance standards of the Group. A strong parent can lend comfort to the investor.

⦁ Interest rate: The best part about a company FD is the higher interest rate. The rates paid are comparatively much higher than what is paid for an average bank FD. It is important to check and make comparisons for interest rates before opting for one. Certain NBFCs and companies offer higher interest rates when compared to others for the same tenure. The reason for corporates (or more precisely, NBFCs) offering FD rates that are higher than those of banks is because NBFCs get returns from their lending business which are higher than those earned by banks, and are therefore able to pass these on to depositors. At the same time, NBFCs ensure that their lending operations are within specified parameters and that asset quality is maintained.

Some of the key risks, however, to keep in mind while investing must not be ignored. Make sure that the company has been paying regular interest to its shareholders. The balance sheet of the companies has shown a consistent track record of profits at least for 3 years. With the number of start-ups entering the market rising, make sure the company has been in existence for the last 5 years at least. Ensure they are offering realistic returns (2-3% more than a bank FD).

Do not fall prey to those companies which are offering very high returns, where the risk-reward is unrealistic. Make sure these companies are listed on the stock exchange, companies that are listed will be well regulated. Do not place all your eggs in 1 basket, diversify to limit your risk. Do not opt for very long tenures with lock-ins, invest for 1-2 years and take stock of the performance of timely payments annually. Don’t go by misleading ads, always calculate the CAGR and compare it with others.

Finally, is the timing right for your investment? Choosing to invest when interest rates are high means returns of your FD will be the highest, but also account for inflation. Systematically and periodically investing 10% of your income can prove to be a good strategy in the initial stages of your life and gradually increasing this ratio to 40% as you grow older can be a good strategy in the long run. Investing ultimately is laying out your money now, to get more in the future.

(By YS Chakravarti, MD & CEO, Shriram City Union Finance)

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