Fixed Deposits Vs Liquid Funds; Where To Invest For High Returns?

Spreading your investments across a variety of asset classes is crucial since investing heavily in any one asset class can be dangerous. Different asset class, including equities, fixed-income instruments, real estate, and commodities, are included in a well-balanced portfolio. There are numerous choices within each asset type.

Similarly, different investing options include fixed deposits (FDs) and liquid funds. Before selecting an investment choice, it's critical to comprehend the distinctions between the two. The characteristics, advantages, constraints, market risks, and other aspects unique to each option are just a few of the main differences. Investors can choose their investments more wisely by being aware of these variances.

Liquid Funds

Liquid funds are among the many different kinds of mutual funds. These funds are invested in short-term interest-bearing money market products such as commercial paper, Treasury bills, and other short-term government securities. Liquid funds often reach maturity after 91 days.
Compared to bank FDs, they have better yields and are low-risk investments. For investors who want a safe place to keep their extra cash for two to three months, liquid funds are the perfect solution.

Who should invest?

Liquid funds are available to all investors. These funds, however, are most suitable for investors who have short-term objectives and extra capital.

According to Edelweiss Mutual Fund, Liquid funds are ideal for people who have idle cash and are looking for short-term investments which generate higher return than a typical savings account. These funds can be used to funnel money into equity funds through a systematic transfer plan (STP). STP offers a two-pronged benefit; first, it earns some returns on the money parked in the liquid fund and second, it helps average down the cost of investment in equity, thereby reducing risk related to equity investments. Further, investors who have received windfall gains or come into a large amount of money, but are undecided about where to invest it, can also use liquid funds to park funds for the short-term.

Advantages Of Liquid Funds

• Minimum investment amount: The minimum investment in liquid funds is really low. You can invest as little as Rs. 100 in a liquid fund.
• Entry & exit load: There are no entry or exit loads associated with the fund. Without incurring any fees, you may withdraw within a day of investing.
• Returns on investments: Compared to savings accounts and FDs, the return in Liquid funds is higher. However, the returns are subject to change depending on market circumstances.
• Low Expense Ratio: Compared to other types of mutual funds, liquid funds have a comparatively low-cost ratio, ranging from 0.2% to 0.5%.
• Liquidity: Compared to other mutual funds, liquid funds are highly liquid and allow for unlimited withdrawals without incurring fees.
• Risk level: In addition to being vulnerable to credit risk and default risk of the underlying securities, liquid funds do not come completely risk-free. Thus, before investing in underlying securities, it is crucial to investigate their credit rating.

Fixed Deposits

Fixed deposits (FDs) have been the most preferred investment for the vast majority of people when it comes to safe and guaranteed returns. Also, FDs are considered the safest investment option when compared to other types of savings investments. They remain one of the most well-liked investment options today as well. Banks and other financial institutions provide FDs with a set interest rate and term.

A certain amount of money must be invested in FDs for a set period at a fixed interest rate set by the respective institution. When the investment amount reaches maturity, the respective financial institution will pay you the predetermined interest on the deposits.

The FD's duration runs from seven days to ten years, and its interest rate is typically between 3% and 8%, but it may go as high as 9%. Your money will be locked in for that predetermined period, however, it can be withdrawn (if allowed) with a penalty defined by the respective.

FDs have a substantial disadvantage, particularly if you are in the highest tax bracket because the interest is added to your taxable income and taxed at the rate determined by your income tax slab.

Should You Invest?

FDs are risk-free investments that provide returns that are guaranteed. As a result, they are one of the best investment destinations for investors with limited risk tolerance levels and fixed return expectations. A steady income is another benefit of this investment.

Investors should only think about investing in FDs if they want to hold their investment for the long term. You can make passive income from FDs by choosing to receive regular interest payments.

As per IDFC First Bank, FDs are risk-free investments that offer higher interest rates than savings deposits. However, investors are advised to shop around before making FD investments, as rates vary across banks.

Advantages Of Fixed Deposits

• Minimum investment: The minimum investment in FDs can be as low as Rs 5000.
• High-interest rates: The interest rate of FDs is higher than savings accounts, making them an excellent alternative to saving money in a bank.
• Guaranteed returns: FDs offer guaranteed returns to their investors. This means that by the end of the tenure, you will get your interest in your account.
• Deposit Tenure: FDs have maturities ranging from seven days to ten years. As a result, you can invest for both short and long-term goals and select the right tenure according to your requirements.
• Loan against FDs: You can obtain a loan against FDs even though they have a fixed term and the investment is locked in for the full time. At a set interest rate, all banks offer loans secured by FDs.
• Tax saving Account: A tax-saving FD account is a FD with a five-year lock-in period that provides a tax deduction under Section 80C of the Income Tax Act of 1961.

Liquid Funds Vs Fixed Deposits

You can park short-term surpluses and earn modest yields with low risk by using liquid funds and bank FDs, respectively. However, FDs offer stable returns while securities in a liquid fund are susceptible to daily mark to market. Fixated deposits are a good option if you want to invest for the long term.