Bank FDs vs Corporate FDs vs Debt Funds: Fixed deposits or FDs of banks are the most popular means of investment among the common people. Along with fixed returns, safety of money is considered to be the biggest reason for this. But only average returns are received on money deposited in bank FDs. Generally, fixed deposits of companies i.e. corporate FDs give higher returns than bank FDs. So should investors invest in corporate FDs instead of banks? Or should they also consider investing in debt mutual funds as a third option?
Advantage of Corporate FD: 1 to 1.5% higher returns
Higher returns are the only important parameter in which corporate FDs can be said to be better than bank FDs. Many companies with good ratings i.e. AA+, AAA or FAAA give investors 1 to 1.50 percent more interest than bank FDs. This difference will be even more when compared to companies with weaker ratings, but we are not mentioning them here because they are less safe. So is investing in FDs of companies with better ratings better than depositing money in bank FDs? Before believing this, it is important to consider some more facts.
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Are corporate FDs as safe as bank FDs?
Corporate FDs may be better in terms of returns, but can the same be said in terms of capital protection? The answer in one word is – no. This is because the amount up to Rs 5 lakh kept in bank FDs is insured. If you make FDs of Rs 5 lakh each in different banks, then you get different insurance benefits on your amount of Rs 5 lakh each in every bank. This insurance is provided through the Deposit Insurance and Credit Guarantee Corporation (DICGC) established by the government. Whereas there is no such security arrangement for the money deposited in corporate FDs.
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How to reduce risk in corporate FD
Even though the money deposited in corporate FDs is not insured, it does not mean that one cannot invest in them. However, one must keep in mind that investments should be made only in companies with strong financial position. To choose such a company, it is important to keep these things in mind:
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Check the rating of the company before investing in FD. You will find the rating information done by credit rating agencies like ICRA, Crisil in the prospectus of that company.
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Also keep in mind that a company cannot be considered 100% safe just on the basis of its high rating. For example, DHFL was a AAA rated company, yet it first became a defaulter and eventually went bankrupt.
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The best way is that you do your own research about the company’s management and business model and also keep an eye on the news related to it, so that no negative aspect escapes your notice.
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Check the financial details of the company in which you are thinking of making an FD. Along with the growth in its sales and profits during the past years, also look at the debt/equity ratio and debt coverage ratio which indicate the company’s debt position. You will also find these figures in the company’s prospectus or other websites that provide reliable information about companies.
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Check the repayment history of the company, if there has been a default even once, do not ignore it.
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Are debt funds a better option?
If you are among those investors who are looking for better returns than bank FDs, but it is difficult to look at the rating of the company, check its debt ratio or sales and profit figures, keep an eye on the news related to it to choose a better corporate FD, then you have another option. This option is to invest in debt mutual funds, which can prove to be better than corporate FDs due to these reasons:
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The job of selecting the right debt security is that of the debt mutual fund manager; you do not have to worry about it.
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Usually, a debt mutual fund invests in 45-50 or even more debt securities. Investing in so many debt securities means that even if one defaults, its share in your entire portfolio will be very small. That is, by investing in a debt fund, you get the benefit of diversification and the risk on investment is reduced.
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In the last 1 year, the returns of the top 5 short duration debt funds have been between 7.79% and 8.14%, while the interest rates on 1 year FDs in most big banks are around 6.5%. That is, the returns of debt funds can be compared with corporate FDs.
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Debt funds do not guarantee returns, but due to diversification of portfolio and supervision by professional fund managers, they can be considered safer than corporate FDs. And the first priority of the investor in debt assets is safety. Otherwise, if you want to focus only on returns, then it is better to invest money in equity in the long term.