Break-up with FDs to beat inflation
Updated: Jan 30, 2020
I am experiencing a new high today. It is the kind of feeling you might get when you leave a steady, dependable companion for the arms of a new, younger, more exciting lover.
Yes, I have launched a new love affair and abandoned my old faithful.
Now that I have your attention, let me reveal all.
The love I am talking about is not about the affairs of the heart – it is love for lucre!
So I have forsaken the old-time favourite fixed deposit savings for the more profitable mutual funds.
My life’s realities
You see, I like to see my money grow. I have given up a well-paying high-profile job and a regular pay-cheque and now survive on a freelancer’s lean and irregular income. So despite the relative safety of the fixed deposit, I have fallen for the lure of equities with their promise of almost double the returns of FDs.
When inflation eats into your interest
It was not just the low rate of interest that FDs offer that drove me to greener pastures. It was also the realisation that despite my loyalty – I had put my money in long-term FDs – the returns did not have the same “real” value as promised. The math is simple. If an FD promises a return of say 8 per cent after a lock-in period of 5 years, the amount of money I will get after five years will have more or less the same buying power it has today.
Meaning if today a loaf of bread costs ₹ 30, five years ago it cost less. So though on paper, it may seem that the ₹ 100 I put into an FD today will grow to ₹ 140 in five years if it grows at 8 per cent; it will only be a nominal growth because in real terms inflation would also have kept pace. At best, saving in FDs will ensure that preserve the value of your money, not grow it ( just about better than leaving money in the locker).
I would have been ok with my money keeping its value in FDs because of the relative safety from volatile markets but for the fact that now I also have to pay income tax on my earnings. That means the already diminished returns are further reduced.
For instance, assume I invest ₹ 100 in an FD and the rate of interest is 8%, I would have made ₹ 108 (almost in line with inflation) and on this, I will have to pay a tax based on my income slab. So, I will pay 30% of the 8% as taxes, which means I am earning a 5.4% interest post taxes ( not even touching inflation and I am probably losing money). There are mutual funds that also serve as alternatives to FDs with safety and security, however, the returns on those are lower.
Investing for the long term
So now I am in a new relationship with mutual funds and am going into it for the long haul. You see, the returns are always better when you commit to a longer time period of investment as it allows your fund to recover from any fluctuations in the market. It may not be as safe and defined as the returns on FDs, but I have decided to live a little.
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