Malaysians love fixed deposits. We collectively placed about RM500 billion in fixed deposits as of 2019; according to statistics from Bank Negara Malaysia. To put that number in perspective, fixed deposits held by the government, financial institutions and businesses amounted to only RM450 billion.
While fixed deposits play a role in your financial plan, you shouldn’t rely on them for all your saving and investing needs. Here are a few things you’ll need to keep in mind when using fixed deposits.
Don’t use fixed deposits for your emergency fund
Fixed deposits aren’t the right place to keep your emergency savings because they lock up your funds. If you withdraw your funds before the fixed deposit matures, you may only earn part of the interest, or nothing at all. How can you pay for an unexpected medical bill or a car repair if your funds are locked up for six to 12 months?
With an emergency fund, you should prioritise liquidity over earning a high interest rate because you need to access the money at any moment. Instead of keeping your emergency fund locked up in fixed deposits, go for a savings account or a cash management portfolio that allows you to access your money quickly when something unexpected happens.
Don’t keep all your long-term investments in fixed deposits
Holding a portion your portfolio in fixed deposits can be a good strategy to manage your investment risk, but you shouldn’t rely on fixed deposits alone. Keeping all your excess cash in a fixed deposit account for three to five years (or longer) guarantees that your money compounds at a much lower rate than if you were to invest in a diversified investment portfolio in that same period.
The graph below shows how much more wealth you’d have over time if you invested your cash instead of putting your cash in a fixed deposit.
The value of your cash in a 2% fixed deposit account versus invested at 6% p.a in 20 years
Assumption: Investment returns compound annually
If you kept RM50,000 in a fixed deposit account that returned 2% every year, you would have RM74,297 in 20 years. However, if you invested that RM50,000 in a balanced investment portfolio that returned 6% every year, your cash would have grown to RM160,356 in 20 years.
In other words, you would have earned RM86,059 more if you had invested your cash in an investment portfolio instead of keeping it in a fixed deposit for 20 years. Over the long term, investing your money grows it exponentially through the power of compounding.
Here’s another way to look at it: to get RM160,000 in 20 years with fixed deposits, you’d have to deposit RM107,000 today. But you’d only need to invest RM50,000 in the markets to get to that same amount in 20 years.
Even if you’re risk-averse, you shouldn’t completely stay out of the markets. Investing isn’t inherently high-risk; you can invest in lower-risk portfolios that limit your downside in the short term. In addition, if you are investing for the long term, you’ll have more time to recoup from short-term losses.
However, leaving a portion of your investments in a fixed deposit can insulate a portion of your portfolio from sudden market shocks. In short, a fixed deposit account should be one of the tools in your invest kit; it just shouldn’t be the only tool.
Be mindful of your maturity dates
If you’re saving up for a large upcoming purchase, such as buying a car or putting a down payment on a house, you can consider fixed deposits. Since these expenses are predictable, putting your short-term savings in a fixed deposit allows you to earn interest so that your money doesn’t lose value due to inflation before you make your purchase.
But make sure you can liquidate your fixed deposits in time to pay for those purchases. For example, if you’re looking to buy a house in 12 months, then you need to use a 12-month fixed deposit to earn the best rate on that cash.
Remember to align your fixed deposit maturity periods with when you want to make withdrawals , as you won’t have the flexibility and freedom to change your mind about your goals. If you decide you want to buy a house in six months instead of in 12 months, you may lose the returns you’ve accrued.
Consider alternatives
Alternatively, you can use a cash management portfolio like StashAway Simple. This lets you earn a rate that’s comparable to a fixed deposit, but without locking up your funds. Whether you’re using your cash for your short-term savings or your emergency fund, StashAway Simple fits in your financial plan as another low-risk investment that you can withdraw from at any time, without losing the accrued interest.
