The Reserve Bank of India (RBI) in February 2025 reduced the repo rate by 25 basis points to 6.25%, the first rate cut in nearly 5 years. This marks a shift in policy stance aimed at boosting economic growth through lower lending rates.
For fixed deposit (FD) investors, this presents an opportunity to lock in current interest rates before potential adjustments. As the interest rate environment evolves, FD investors may want to review their strategies to optimise returns on their FD investments.
In this blog, we discuss the implications and strategies for investors to optimise their FD returns.
How Will FD Rates Be Impacted?
Financial institutions typically use RBI's repo rate as a benchmark for determining deposit rates. Historically, policy rate cuts have led to banks reducing deposit rates across tenures. Some banks and Non-banking Financial Companies (NBFCs) have recently introduced special high-interest deposit schemes for 400-450 days tenures.
However, financial institutions have indicated that there may be a delay in adjusting their deposit rates this quarter since they need deposits to support credit growth. That said, new deposit rates are expected to trend lower in the coming months, but existing FD holders will continue earning higher rates until maturity.
The decline in deposit rates may lower the passive earnings of senior citizens who primarily rely on FD income. Therefore, retirees may have to explore options beyond FDs to supplement their fixed monthly income.
Strategies for Fixed Deposit Investors as Rates Decline
The RBI recently cut policy rates after a prolonged pause. This marks a shift to an accommodative stance aimed at spurring economic growth. Against this environment, where interest rates may have a downward trend, FD investors may need to review their portfolios and consider suitable strategies to optimise their FD returns.
Here are some tips:
Lock-in Attractive Rates Available Now
Banks and NBFCs are not likely to quickly lower deposit rates for everyone. However, new FD rates are expected to trend lower in the months following the rate cut. As an investor, if you're considering FDs as an investment option, it's a good idea to do it now to take advantage of the higher interest rates available.
Typically, banks and NBFCs lower rates on short-term deposits first while keeping higher rates for longer-term FDs (5-10 years). So, if you need your money back soon, act quickly to maximise your earnings. Consider putting any extra funds into 1-2 year FDs before rates drop.
Consider Alternate Fixed Income Investment Options
When FD rates decline, investors can diversify into fixed-income alternatives that may offer relatively better accruals. One option is highly rated corporate FDs from NBFCs. While minimum investment amounts are higher, corporate 1-2 year FDs currently offer up to 50 basis points higher rates than comparable tenure bank FDs.
Follow a Laddering Strategy
Spreading FD investments across different tenures—laddering—can help manage interest rate risks efficiently. It prevents locking all capital in long-tenure FDs at once. As shorter FDs mature, investors can reinvest at new prevailing rates.
Staggered laddering also provides liquidity to meet unforeseen expenses if required. For instance, one can ladder with 25% in 3-month FDs, 50% in 1-year FDs, and 25% in 2-year FDs. This prudently balances safety, returns, and liquidity.
Can Rising Inflation Delay Further Rate Cuts?
While the RBI delivered a surprise repo rate cut in February 2025, rising inflation poses a challenge for further policy easing in the near term. In this case, the RBI's decision to cut the repo rate was influenced by low inflation and a slowing economy. However, if inflation begins to rise, it could impact future rate cuts. Here are the factors the RBI is likely to consider:
- Inflation Outlook: The RBI has projected retail inflation at 4.2% for the next financial year, which is within its target range. However, if inflation exceeds these projections, the RBI might hesitate to cut rates further to prevent overheating the economy.
- Economic Growth vs. Inflation: The RBI aims to balance economic growth with inflation control. If inflation starts to rise, the RBI might adopt a more cautious stance, potentially delaying further rate cuts to ensure price stability.
Will the RBI Deliver More Rate Cuts Going Forward
The RBI surprised markets in February by cutting repo rates after over a year of status quo. While the 25 basis point cut was welcomed, analysts believe the RBI can continue to ease policy in the coming months.
The central bank changed its stance to 'neutral' from 'calibrated tightening,' indicating a tilt aimed at supporting economic growth. With mild inflation levels, RBI has elbow room to cut rates further if growth momentum weakens.
According to market experts, at least one more rate cut of 25 basis points is likely in the next few policy meetings. However, the quantum and timing will be data-dependent.
Nevertheless, the RBI will adopt a cautious approach, weighing evolving growth-inflation dynamics before pulling the trigger. The government’s fiscal consolidation roadmap, the progress of monsoon rains, and external factors like trade wars and oil prices will also influence RBI’s decision.
Conclusion
The RBI maintained a neutral stance after the recent cut. Investors have the option to lock in current elevated rates through special tenure schemes before realigning with market rates. Laddering of FDs is another effective strategy to average returns amid rate volatility. For the remaining portfolio, target maturity debt funds, corporate FDs and floating-rate bonds can help offset the impact of declining FD rates. Fixed-income investors can balance returns and liquidity by responding prudently to the shifting rate environment.
