Which is Best Investment Options in India 2020? - FDs or Bonds

The interest rates offered on fixed deposits are drastically falling and this has affected those who mainly survive on the interest income from FDs. Today most of the nationalized as well as public sector banks have trimmed down interest rate it offers to normal as well as senior citizens. Currently, SBI offers interest rates of 6.10% for a period of 1 year to less than 2 year, for seniors interest rate is 6.60% and even private sector banks like Axis Bank also offers a meagre interest rate of 6.40% for 1 - 2 years of fixed deposits, for senior citizens, it is 7.05%.

Given the rate of inflation surging up every year, it becomes difficult for individuals to survive just on the monthly interest amount which fixed deposits fetch.

Touted as the best financial investment tool for risk-averse investors, the fixed deposits offer lower interest rates unlike listed bonds from quality companies which offer higher yields on investment. The purchase process of bonds is not as easy as compared to the purchase of a fixed deposit. Hence, an investor needs to ensure that they are parking their funds in the right bonds.

Let's first understand its meaning and features.

What is a Fixed Deposit?

A fixed deposit is a kind of investment instrument which is offered by banks and non-banking financial instruments, wherein investors can park their funds for a predetermined period. It offers interest on the invested money and it usually depends on the period of deposit. Every bank and financial institutions offer varied interest rates on the investment made by investors.

The period of investment varies between a few days, months to years. An investor can withdraw their funds from FDs only after maturity. In some cases, the investor can withdraw their funds by bearing a penalty fee.

Key Takeaways from Fixed Deposits

• Fixed deposits or term deposits is a kind of deposit account held by individuals wherein money is locked up for a specific period.
• These fixed deposits fetch higher interest rates to investors when compared with any other traditional liquid savings account wherein customers are provided with an option to withdraw their funds at any time after bearing penalty charges.
• The tenure of fixed deposits is usually for short term with maturities ranging between one month to a few years.

What is a Bond?

A bond is also a form of fixed income instrument which represents a loan made by investors to a borrower (government or corporate house). The bonds bring in the concept of 'I Owe You' between the lender and borrower. Municipalities, government, companies, state governments issues bonds to raise money to fund for projects and to conduct financial operations.

The issuer of the bond is known as creditors, debt holders or even owner of the bond. The bond details include the end date upon when the principal amount of the loan which has to paid by the issuer to the borrower will be paid along with either fixed or variable interest.

Key Takeaways from Bonds

• Bonds are issued by governments, companies as units of corporate debt.
• These bonds are securitized as tradeable assets.
• It carries a maturity date upon which the principal amount should be paid back in full or risk default.
• The prices of bonds are inversely correlated to interest rates. (If interest rates go up, the prices of bonds falls and vice-versa).
• Bonds act as a fixed-income instrument as it pays a fixed interest rate to the debt holders.

Individuals who are looking for investing in bonds or fixed deposits should first percolate their respective financial needs based on the following listed factors.

Returns Factor

Fixed deposits or FDs are considered as safe, liquid as it provides an assured interest income and hence it is opted by millions of Indians when compared to any other form of investments. These FDs are easily available with any of the banks, financial institutions.
This form of investment suits risk-averse investors and hence it is considered as one of the best investment options in India.

Contrarily, returns in case of bonds mainly based on their ratings. The bonds carry credit ratings which will be generated by rating agencies like Fitch Ratings, Standard and Poor's, Moody's and so on. These rating agencies assess the creditworthiness of the issuer and will assign a rating based on the borrower's ability to repay their obligations. Ratings range from AAA to D, the bonds which carry AAA or near to it are considered as safe and likely to be repaid than the one which has a D rating, which is more likely to default on repayment.

Though some of the companies like Reliance Home Finance, Dewan Housing Finance offers high yields, they are suitable only for high-risk takers and not for risk-averse investors.

Liquidity Factor

Fixed deposits can be liquidated (closed) easily even before the end of the maturity period. However not all the FDs can be liquidated easily. For Example: If an investor has opened a five - year tax savings scheme, then it cannot be closed before the completion of its term.

In the case of listed bonds, it is not easy to withdraw the invested funds immediately. For liquidating your bonds, you need to sell them in the market and the money will be credited to your account only after a few days and not immediately. Most of the listed bonds are not traded frequently. Hence investor has to lookout carefully concerning liquidity as they are likely to get into trouble if they opt for bonds which has low liquidity and if investor opts to sell them before the maturity period.

Taxation Factor

The government of India has introduced taxation on fixed deposits if the interest earned on them exceeds Rs 20,000 per year. In case of senior citizens, the exempted amount of interest earned from FDs is Rs 50,000 under Section 80TTB of the Income Tax Act 1961.

When it comes to bonds, listed tax-free bonds are best suited for investors who fall in the high tax brackets or high net worth individuals (HNIs). For investors who fall in the tax bracket between 0-20% tax bracket can opt for the government of India bonds which offers 7.75% interest. For those who are equal to and above 30 per cent of tax bracket can go for tax-free bonds as they promise better returns compared to the fixed deposits.

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About the Author

Archana is a Content Writer at GoodReturns. She has been writing articles related to investment planning and personal finance for more than two years.