FD Laddering: Let’s imagine you invest your money for three years at the standard interest rate of, say, 6% annually in bank fixed deposits. After locking in your money in the FD, you discover that the interest rates provided have increased even though the bank FD rate will stay the same for the duration you have selected. You would be disappointed by that, wouldn’t you? Considering that if you had invested at the higher rates that were later made available, you may have received a better rate of return.
The Solution: FD Laddering
What if we told you that there is, in fact, a single approach to maximise your earnings while mitigating the danger of losing out on opportunities? FD laddering is the solution. Continue reading to learn what it is and how it functions.
What Is FD Laddering?
FD laddering is a strategy in which an investor builds a ladder of FDs, as the name implies. How are you able to accomplish that? by distributing your FD assets over a number of FDs and tenures as opposed to making a single, long-term FD commitment. You don’t commit all of your funds at one interest rate level that is being given as the rate of return when using FD laddering.
This easy-to-understand idea can maximise your returns on investments. To better grasp laddering, let’s look at an example. Let’s say you wish to invest a total of Rs 6 lakh over three years in bank FDs.
Principal | Tenure (years) | Applicable interest rate (%)
- Rs 2 lakh | 1 | 6.00
- Rs 2 lakh | 2 | 6.50
- Rs 2 lakh | 3 | 7.50
Second, you will continue to reinvest the annual fund dividend for an additional three years. For example, the first FD’s revenues will be invested for three years following year one. The proceeds of the second FD will again be for three years after year two, when it matures. And so it goes.
Benefits Of FD Laddering
Better returns: You can search for better rates on FDs and build a ladder where the highest step corresponds to the most lucrative FD for that term.
Increased liquidity: One of your FDs would mature annually if you used FD laddering. Better liquidity is implied by this. Your money would be locked in for a number of years if FD laddering didn’t exist. Of course, it is possible to violate FDs, but doing so will result in a fine.
Increased level of safety: By spreading your FDs over a number of financial institutions, you can lower the risk associated with holding all of your money at one bank or NBFC.
Disadvantages Of FD Laddering
Remember that bank FD laddering may backfire in the event that interest rates decline. This is because you would receive fewer returns on your new FDs as they would be made at lower interest rates.
But keep in mind that FD laddering is not a method for increasing return. It is, instead, a return-optimization technique that minimises the opportunity loss resulting from an abrupt increase in interest rates. Therefore, according to ET Money, don’t anticipate it to always provide you with higher returns than a single FD.
What To Keep In Mind?
Naturally, higher interest rates translate into bigger gains for FD investors—that is, if they can lock in at the appropriate moment. However, building a bank FD ladder may prove to be more advantageous than investing in a single FD, as the majority of us are unable to forecast the interest-rate cycle. As previously indicated, the FD laddering up technique can aid in optimising profits. However, keep in mind that FD laddering does not ensure higher returns because, depending on the state of the economy, rates may decrease rather than increase.