Debt funds vs. Fixed deposits: Which one should you choose

debt funds vs fixed deposits

Are you looking for information on debt funds and fixed deposits? This blog post will provide you with everything you want to know about these two popular instruments—the differences between the two, the risks involved, and much more. Let’s dig in.

Understanding debt funds and fixed deposits

Before comparing debt funds and fixed deposits, it is crucial to understand both terms.

What are debt funds?

A debt fund is also known as a bond fund. These funds usually invest in bonds and other types of debt securities. The fund is a type of mutual fund that invests in money market instruments, corporate debt securities, and government and corporate bonds.

Do you know what the different types of debt funds are? You can analyze various kinds of debt funds based on their underlying assets. Some of those are mentioned below.

  • Government
  • Agency
  • Municipal
  • Corporate

Other than these categories, you can also classify them on the basis of factors such as terms, types of yield, and other specifications.

What are fixed deposits?

Generally, banks and other financial institutions offer fixed deposits that provide an investor with a higher ROI compared to regular savings accounts. Fixed deposit is a term widely used in the United States and India. In New Zealand, Canada, and Australia, it is known as a time deposit or term deposit.

Put simply, a fixed deposit is a deposit you cannot withdraw before its maturity date. For this reason, several banks offer loans against fixed deposits. Usually, the tenure of fixed deposits can vary between 7 and 45 days and from 1.5 years to 10 years.

The similarities and differences between debt funds and fixed deposits

Now that you got to know about what are debt funds and fixed deposits, it is easier to understand the similarities and differences between the two.

  • Fixed deposits are considered investments with no or lower risks than the funds.
  • While you withdraw your premature FD, a penalty might be charged. In some cases, the withdrawal of debt funds at an early stage might incur an exit load.
  • The returns in fixed deposits are not linked to the market, whereas, in the case of debt funds, it is directly related to the market.
  • When comparing both, you will notice that both are types of investments. So, whether you put your money in FD or debt funds, you must invest the amount with proper planning and strategy.

Risks and returns

Before investing in these two products, it is imperative to analyze the risks and returns.

The risks associated with debt funds

Everything has its risks and benefits. Likewise, these funds too have a few risks associated with them. Some of them are:

  • Interest rate risks
  • Credit risks
  • Liquidity risks
  • Re-investment risks
  • Concentration risks

The returns associated with fixed deposits

Are you planning to invest in fixed deposits? Doing so is an excellent idea because you can earn great returns.

Fixed deposits of long-term investment can fetch you excellent returns. If you are above the age of 60, you can also enjoy additional perks related to tax. Also, if you prefer to choose a five-year or any other long-tenure deposit, your returns will be more.

The risks and returns associated with debt funds and fixed deposits

Both products come with risks and returns.

Risk is everywhere, but the returns can give you the strength to plan and make strategies for managing the risks.

In these funds, the significant risks are credit, liquidity, and interest rate risks. In fixed deposits, you have risks related to inflation, default, high taxation, liquidity, and reinvestment.

As for returns from fixed deposits, you can opt for long-term investment as it offers better interest rates. In debt funds, you can grow your amount within days or months, depending on the market.

How to evaluate the risk-return trade-off?

To evaluate the risks in funds, you need to understand the following parameters better.

•Standard deviation
•Sharpe ratio
•Sortino ratio

Essentially, you need to know the market and current strategies to earn more returns and benefits from your investment.

While evaluating the risks in fixed deposits, you must consider the company/entity in which you are investing, interest rates, and duration of the deposit.

Investment horizon and liquidity

Do you know the investment horizon effects, liquidity, and how to evaluate it? Here is a brief primer.

How does the investment horizon affect debt funds and fixed deposits?

Investment horizon means the time or tenure you are willing to hold a fund or fixed deposit.

Investment horizon plays a vital role in both investments. You can invest in short, medium, or long-term funds and deposits. Depending on the market, tenure, and other factors, you can gain more benefits if you prefer long-term fixed deposits. In debt funds, things are much more dependent on the market, and there is a lower chance of risk in long-term investments compared to shorter ones.

The liquidity of debt funds and fixed deposits

If you are comparing both instruments based on liquidity, here is what you need to know.

In fixed deposits, the liquidity is low, and a penalty is charged for premature withdrawal. In funds, the liquidity is higher, and you can withdraw your money without penalty.

How to evaluate the liquidity of debt funds and fixed deposits?

You can evaluate the liquidity of these two based on factors like turnover ratios, bid-ask spreads, and price impact measures. All these will be helpful in the evaluation, so make sure to evaluate before you invest.

Tax implications

Understanding implications and their calculation plays a vital role in deciding your investment.

Tax implications of debt funds

If you are investing in these funds, the taxation for short-term investment might depend on your income tax slab. If it’s for a longer term, a 20% tax is charged after indexation. So, you should consider this while investing in debt funds.

Tax implications of fixed deposits

If the interest on your fixed deposit is more than ₹10,000 a year, a 10% tax is deducted.

How to evaluate the tax implications of debt funds and fixed deposits?

For evaluating tax implications of funds, you need to consider points like the tenure of your fund, your tax slab, and other factors. In a fixed deposit, you need to deduct the TDS after earning the interest to evaluate the tax implications.

Suitability and considerations

Here, you will learn how to evaluate suitability, what you should consider, and other stuff while investing in fixed deposits and debt funds.

How to evaluate the suitability of debt funds and fixed deposits for your investment needs?

To evaluate these funds, you must consider modified duration, average maturity, credit rating, yield to adulthood, and current interest rate scenario. You can size up fixed deposits based on a financial institution, loan facilities, rating, and duration.

Other considerations when choosing between debt funds and fixed deposits

When comparing the two, you should consider the rate of returns, risks, liquidity, withdrawal, investment expenditures, and options.

How to balance the suitability, risk, and return when choosing between debt funds and fixed deposits?

Every fund or deposit has its risk and returns. So when choosing between debt funds and fixed deposits, you must analyze everything and compare it with your requirements. If you are okay with taking up the long-term plan with no risk, you can choose fixed deposits. But if you want to earn more money and can take a slightly higher risk, investing in these funds can be a great idea. So, the evaluation and balance depend entirely on you.

We have given you the lowdown on debt mutual funds and fixed deposits to help you make an informed choice. Weigh the risks and rewards carefully before you sign up.


Is FD better than debt funds?

Fixed Deposits (FDs) provide certainty and are less volatile, making them suitable for low-risk investors. Debt funds offer potential tax efficiency and better liquidity, catering to different investor preferences.

Is it good to invest in debt funds now?

Debt funds can offer stability and potential returns, especially with easing yields. However, consider economic conditions and consult a financial advisor to align investments with your goals.

Which investment is better than FD?

Consider alternatives like PPF, NSC, RBI bonds, Corporate deposits, Debt MFs, and Equity funds. These options provide potential for higher returns and varying risk levels compared to Fixed Deposits.

Why FD is better than liquid fund?

Fixed Deposits (FDs) offer guaranteed returns, making them more stable than Liquid Funds. FDs are suitable for conservative investors seeking a secure and predictable investment.

Disclaimer: Investing in mutual funds is subject to market risks. Please read all scheme-related documents carefully before investing. Potential returns from a mutual fund product are not guaranteed. Past performance is not indicative of future results. None of our articles are intended to and should be considered investment/financial advice from CoinSwitch.

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