Company FDs can be risky!!

 "The boom and the bust were normal-just two more swings in stock returns over the past century. Reversion to the mean is the iron rule of the financial markets". - John Bogle

Investors often scramble for investments yielding good returns, in an environment where the economy slows down and inflation is high.

One such investment avenue which has generated some interest in recent times has been corporate fixed deposits (FDs). These are deposits just like with banks, but they offer interest rates (for instance those with AAA rating) which on an average are 1-2% higher than bank deposits.

Because they provide better rates than bank FDs, the former are probably finding more takers as inflation eats into interest on bank FDs. 

But that does not mean that corporate FDs are always safe. Quite the opposite. 

While the rates promised are high, the risk factors with respect to these FDs are also high. One of them is that these deposits are unsecured. So if the company is unable to repay, the principal is entirely lost.

Hence, when evaluating corporate FDs, it becomes very important for investors to study the fundamentals of the company, whether it is in a sound financial shape and will be able to honour its commitments. 

A company which has been consistently in the red will obviously be a very risky bet even if it promises high returns. Of course, credit rating agencies also provide ratings on the same. But it still becomes important for investors to do their own homework before they make any decision.

At the end of the day, no investment in any asset should be made because it has become a fad. 

Investors need to understand their financial goals and risk appetite and make their investments accordingly. 

So while not intending to write off corporate FDs entirely, I believe that investing into them solely on the basis of better returns promised would not be the right way of doing things.

Also, while it is a good idea to keep away some safe cash in the form of fixed deposits etc, please make sure that you do not lose sight of your overall asset allocation. 

 

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