Though Fixed deposits (FDs) are considered as traditional investment options, they still find a place in most Indian households. As per the reports of Reserve Bank of India (RBI) released on June 2020, around 53% of average Indian household’s financial assets are dedicated towards fixed deposits as on March 2020. Though mutual funds are also seemingly popular among retail investors, these investment options raise to popularity in the recent decades. As per the date released by AMFI (Association of Mutual Funds in India), the AUM (asset under management) of mutual funds in India have grown at CAGR (compounded annual growth returns) of around 17% in the last twenty years. So, which of the above two investment options make for a better choice? Let’s understand and explore in this article.
What is a mutual fund?
Mutual funds are financial vehicles that are professionally managed by mutual fund experts known as fund managers. A fund house or an AMC (asset management company) pools the funds of several investors and invest in different securities basis the investment objective of the fund. Examples of such securities include cash and cash equivalents, stocks, money market instruments, bonds, etc. These fund managers have in-depth knowledge and understanding of the markets. You can invest in mutual funds either via a systematic and regular mode of investment – SIP (systematic investment plan) or lumpsum mode of investment.
What is a fixed deposit?
Fixed deposits are financial instruments provided by financial intermediaries such as NBFCs (Non-Banking Financial Company) or banks that offers investors with a fixed rate of interests for a fixed duration. The government of India predetermines this interest rate every year. Hence, these are relatively safer investment options than mutual fund investments. In return, investors are not allowed to redeem the schemes before the maturity of the term. Unlike mutual fund investments, you cannot make an SIP investment in fixed deposits. You need to make a lumpsum investment to invest in fixed deposit schemes.
Mutual funds vs fixed deposit
Let’s understand the differences between fixed deposits and mutual funds by referring to the following table:
|Parameter||Fixed deposits||Mutual funds|
|Interest rates||Fixed||Vary as they are market-linked|
|Investment objective||To preserve wealth||To generate wealth|
|Market conditions||Returns are not dependent on market conditions||Market conditions play a significant role to calculate mutual funds returns|
|Risk||Relatively lower risk as returns are predetermined and fixed||Relatively higher risk|
|Expenses||FDs do not levy any additional costs to investors||Mutual funds levy certain charges and fees|
|Tax||Dependent of the investor’s income tax slab||Tax on mutual funds are dependent on the type of mutual funds invested in and the holding period of the investment|
|Lock-in period||5 years||Except ELSS funds that have a lock-in period of 3 years, mutual funds do not have lock-in period|
|Mode of investment||Only lumpsum investment||Either SIP (systematic investment plan) or lumpsum investment|
Where should I invest?
The decision to invest in mutual funds or fixed deposit lies with an investor. You must check your financial objectives, investment duration, and risk profile before deciding the right investment option for you. That being said, if you’re looking to generate wealth, you are better off with mutual funds as they have the potential to generate significant returns when invested for a prolonged duration. Happy investing!