FD laddering: Investors who do not want to be exposed to the market volatility often prefer fixed deposits (FD) as a profitable form of investment, given their steadiness and guarantee of a constant interest rate. Fixed deposit interest rates depend on the bank and the tenure.
To maximise your FD returns, you can try out a technique called FD laddering.
What is FD laddering?
Bank FD laddering is a technique that involves buying multiple FDs maturing in different time periods. Personal Finance experts suggest that investors seeking to invest in bank fixed deposits for a longer period may consider a ladder strategy.
FD laddering creates a schedule where investors can get their returns at a regular interval, ensuring liquidity and a steady flow of income. This comes with the added bonus of maximising returns.
Benefits of FD laddering
There are multiple benefits of fixed deposit laddering.
- Offers maximised returns: FD laddering helps you maximise your returns as distributing your funds across various tenures ensures you can benefit from varying interest rates.
- Steady liquidity: The different times of maturity ensures you have a portion of your funds is accessible at regular intervals. You get greater liquidity and flexibility to address short-term financial requirements.
- Helps with tax planning: FD laddering aids in tax planning by staggering FD maturities, and optimising tax liabilities.
- Mitigated risks: Since deposits mature at different times, investors can reinvest the principal amount at prevailing interest rates. This reduces the impact of potential reinvestment risks associated with long-term FDs.
How does FD laddering work?
With FD laddering, you can diversify your investment across multiple FDs with different maturity periods and interest rates. This helps you create a “ladder” of maturity dates, which in turn ensures regular liquidity and the potential for reinvesting at higher interest rates when the opportunity arises.
FD laddering involves determining an investment horizon, that is the time for which you want to stay invested. You then need to divide your total investment amount into multiple buckets or segments, each representing an FD with a different maturity period. Now choose the maturity period for each FD so it aligns with your financial goals.
How to invest ₹1 lakh with FD laddering
Here is an example of FD laddering.
Suppose you have ₹1 lakh that you want to invest over a five-year period through FD laddering.
To get started, divide the amount into ₹20,000 each, with each of them representing an FD.
Invest this money into five different FDs. This can be at the same bank or different banks, depending upon your financial goals and interests.
FD 1: Tenure – 1 year; Maturity – Year 1
FD 2: Tenure – 2 years; Maturity – Year 2
FD 1: Tenure – 3 yeas; Maturity – Year 3
FD 1: Tenure – 4 years; Maturity – Year 4
FD 1: Tenure – 5 years; Maturity – Year 5
Now, when the first FD matures during year 1, reinvest it for a period of the remaining four years, depending on the interest rates. Alternatively, you can also use the funds.
When the second FD matures at year 2, reinvest it for the remaining three years. Do the same with your third and fourth FDs, and watch your investments grow.