Now the next question for which FD investors are most eagerly looking an answer to is whether the interest rates have peaked now and should they lock in their funds in FDs with longer tenures.
For this, let us understand the direction in which FD rates are likely to move and what could be the best course for your FD investment.
Has the interest rate cycle reached its peak?
Retail inflation which was the biggest factor for RBI to raise rates has cooled down and reached under the 6% level, which is the comfort zone of the RBI. Unless there is a significant spike in inflation again the likelihood for another repo rate hike in the next MPC is low. The 10-year G-sec yield, which had peaked at 7.59% in June 2022 with anticipated hikes in future, is yet to reach anywhere closed to it again as it is currently hovering around 7.3%. Most of the central banks globally have indicated their hike cycle reaching close to the peak. Commodity prices include crude oil have largely been rangebound.
“Based on RBI forward looking FY 24 inflation forecast of 5.30%, at 6.5% repo rate, the real rate is 1.25%. We believe this is the last rate hike in this cycle,” says Deepak Agrawal, CIO – Debt, Kotak Mahindra Asset Management Company. All these factors hint that we are very close to the peak of the interest rate hike cycle.
While many experts are of the view that the there may be a pause in hikes but the cycle is yet to peak. “On net basis, even as global tightening is still expected, the anticipation of slowing pace of hikes has eased financial conditions somewhat. This hints that EM Asia central banks, including RBI, could breathe easier. With this hike of 25bps, the one-year ahead estimated real repo rate will likely get fairly positive (implying a pause, although not necessarily an end to the cycle),” says Madhavi Arora, Lead Economist, Emkay Global Financial Services.
“Markets were expecting an explicit statement suggesting a pause which has not happened. This suggests the tug-of war-between growth and inflation continues. While chances of pause still remain, the uncertainty may persist. Expect range bound yield movement till then – oscillating between global data and domestic cues,” says Lakshmi Iyer, CEO-Investment Advisory, Kotak Investment Advisors Limited.
Moreover, there are some experts who believe that there may be few hikes in future as well. “The rate hike is a reflection of the easing inflation, which has been below the regulator’s tolerance band with a moderation of 105 bps in the last two months. There could be another rate hike in the coming months before a pause on the interest rates,” says Naveen Kulkarni , Chief Investment Officer, Axis Securities PMS.
“Inflection points are always difficult to call, but I think that the rate hiking cycle of the RBI may yet not be over. We remain open to another 25bps increase in the repo rate in April or even later and will critically depend on the inflation prints in the months ahead. For record, our model suggests that the next CPI print can surprise on the higher side to 6.2-6.4%, as food prices are seen to have largely normalized based on data obtained from the Department of Consumer Affairs,” says Indranil Pan – Chief Economist, YES Bank.
Transmission of repo hikes yet to happen fully in FD rates
Whenever the repo rate is hiked, the lenders are quick to pass on the higher rates to the borrowers especially in case of repo-linked floating rate loans. However, there is always a lag when it comes to giving the rate hike benefits to the fixed deposit investors. The RBI data shows that the minimum and maximum interest rates of FD with tenures greater than one year offered by banks was 5% and 5.60% in April 2022. Since then, the minimum interest rate has moved up to 6%, which is a rise of 1%, and maximum rate has moved up to 7.25% which is a rise of 1.65% as on Jan 27, 2023.
This clearly indicates that interest rate on these FDs with tenure over one year is far from reaching close to the 2.25% repo rate hike seen in the same period. While the transmission of maximum interest rate has been quite high, the same is yet to happen on the minimum interest rate front. This shows that many banks are comfortably placed at minimum interest rate and are yet to feel the competitive pressure to raise their rates which may happen in the coming months.
FD rates are yet to peak for long tenures: Even the banks which are offering higher interest rates are doing so only for FDs with medium term tenures in the range of 1 year to 3 years. For, instance, Kotak Mahindra Bank is offering its best rate of 7% to general citizens and 7.5% to senior citizens on a tenure of 390 Days (12 months 25 days) to less than 2 years. Union Bank of India is offering its peak rate of 7.30% on specific two tenures of 800 days and 3 years at 7.30%. Peak rate of 7.25% for general and 7.75 for seniors is available for PNB FDs on a specific tenure of 666 days.
Some big banks are also offering their highest interest rate to general citizens only up to 3-5 years tenures. For instance, SBI is offering its peak rate of 6.75% to general citizens on FDs with tenure 1 year to less than 3 years. The highest rate of 7% for general and 7.5% for senior citizens is available on tenure of 15 months to 5-year for HDFC Bank and ICICI Bank. However, if you compare the SBI interest rate of 5.4% on the tenures of 3 year to 5 years available in January 2022 the rise so far as only been 1.6% for general citizens which is not close to the 2.25% repo rate hike during the same period.
Many of these banks are offering their highest rate to senior citizens on longer tenures above 5 years but the same is not available to general citizens. The peak rate of senior citizens for a tenure of above 5 years to 10 years is 7.25% in SBI, 7.75% in HDFC Bank and 7.5% in ICICI Bank. However, here also the transmission is not anywhere close to RBI’s repo rate hike of 2.25%.
The historical trendline of interest rates of various tenure shows that all the rates are converging close to the 10-year Gsec yield, which is currently hovering between 7.3% and 7.5%.
Is this the best time to book your FDs?
Most of the important factors indicate that we are close to the peak of the current repo rate hike cycle. However, rise in FD interest rates may continue for some more time. Not all banks have raised their FD interest rates in tandem with the repo rate hikes. It will take some more time for the banks to raise their rates further. The next monetary policy scheduled in April this year will give a more tangible direction.
So, if you are planning to invest in a big FD for long tenure it will be better to wait for 2-3 months. However, you can also divide your FDs in 2-3 parts and invest a part of it now and invest the remaining with an interval of 3 months. If you wish to make an FD ladder, it is perhaps the best time to start your ladder. For instance, you can divide your principal in three parts and book each one these for one year, two years and three years, respectively. Next year when the one year FD matures you can reinvest that for three years and do the same the following year when the next FD matures.
If you have an old FD for a long tenure which is earning a very low interest rate, then this may be the right time to liquidate that and reinvest, if there is a long time left for the FD to mature. However, you need to do the net benefit analysis before taking this step.
The transmission of interest rates in smaller private banks and small finance banks has been quicker and they are offering much higher rates than bigger banks. So, if you wish to avail the benefit of higher interest rates in these banks, which has an element of higher risk involved, you need to make sure your exposure is well covered under the Rs 5 lakh insurance cover from DICGC.