You may have thought of opening a fixed deposit (FD) account to lock in an amount of money for a few months or years to earn better interest. Choosing a longer term will earn you more interest as compared to a shorter one. The trouble is, once the money has been deposited, you can’t withdraw the amount until it matures, unless you’re willing to sacrifice the interest that you’ve earned.
All this sounds simple enough, but are fixed deposits worth using, or are there other comparable instruments?
An FD is incredibly low-risk compared to other investment tools such as stocks, REITs (real estate investment trust), or derivatives. The interest rates for FDs vary, so you will need to enquire about the rate offered by your bank when you open the account.
Regardless of market volatility or fluctuating interest rates, your bank will honour a guaranteed interest rate at the end of your term. Having an FD thus gives you a sense of security because no matter what, you will be able to recoup your capital plus a little bit more.
An FD can provide you with regular supplementary income if you set it up to automatically deposit your interest earnings into your savings account. Depending on the bank, you can choose to have your earnings deposited yearly, monthly, or at the point your FD matures.
If you deposited a significant amount, these interest earnings can serve as extra cash flow that you can reinvest into other instruments. This benefit also allows you to reap the rewards of your FD without touching the principal amount.
If you have no plans to invest and would leave all your money in a savings account either way, you should consider an FD. A regular savings account in Singapore offers base interests that range from 0.05% to 0.8% with a median of 0.05%. An FD provides interest rates between 0.1% and 0.7% with a median of 0.45%.
So if you have an extra S$5,000 of savings in your regular account, putting it in a 12-month FD with 0.45% interest will earn you S$22.5. In comparison, your base interest of 0.05% would only earn you S$2.50.
Even though the returns for an FD may be more than a savings account, they are still much lower than what you could get from other investment instruments such as bonds and insurance savings plans that do not involve significantly higher risks. Given the low-risk nature of the deposit and its fixed rate of returns, the banks end up absorbing a large amount of risk as compared to the consumer.
Thus, they are unable to offer higher returns for the amount of risk that you take, which is very low. With the current rates as mentioned above, you may want to hold off on using FDs and wait and see if they increase in the next few years.
Once you’ve deposited money into the account, you cannot withdraw it until the term matures. Doing so can result in penalties, which include the loss of earned interest, or receiving a lower interest rate on your principal amount.
If, for example, you have a 12-month FD but you need to make a withdrawal in the 7th month, you may only receive interest for months 1-6. The total interest will be lower than the annual interest rate that you were promised for completing the tenure.
One option that’s similar to an FD is the Singapore Savings Bond (SSB).
The SSB is issued by the Singapore government to encourage long-term savings. The bonds can be redeemed anytime for the full amount you put in, so you don’t have to worry about losing your capital if the market ever becomes volatile. The bonds mature in 10 years, and if you hold them that long you should receive 2%-3% yields.
Compared to an FD that gives you only 0.7% for 12 months, the latest issue of the SSB (March 2018) provides 1.42% returns if you redeem it at the 12-month mark. New bonds are issued on a monthly basis and you can find out how to apply for it on the SSB website.
Incorporating low-risk investments is useful in building a holistic portfolio. When you’re ready to take the next step in your investment journey, you can also explore higher-risk investments such as ETFs and mutual funds.