Bonds and FDs

Not everything on the shelf is a share. Long before most people buy a stock, they open a fixed deposit at their bank, or are offered a bond that "pays 9%." These feel like the safe, grown-up corner of money — a number written down in advance, capital that comes back on a known date. No blinking price, no drama.

That calm is mostly deserved, and mostly the point. But "fixed" is not the same as "safe," and the two get quietly confused. So before you park money here, one question is worth settling: when you buy a bond or open a fixed deposit, what exactly have you become — and what can still go wrong even though the rate is fixed?

In the last module you saw the two great families of claim: equity, which owns the residual, and debt, which is owed a promise. A share made you an owner. A bond or FD puts you firmly on the other side of that line: you are the lender.

That single fact reshapes everything. As a lender you are not buying a slice of a business and its open-ended future. You are handing over money for a while in exchange for a promise: a fixed rate of interest along the way, and your original amount — the principal — returned on a stated maturity date. In a bank FD that promise comes from the bank; in a bond it comes from whoever issued the bond.

The trade you are making is precise. You give up the unlimited upside an owner might get, and in return you get certainty of a number — if the promise holds. The lender's return is capped: the borrower who does brilliantly still owes you only the agreed interest, not a rupee more. The whole appeal of this corner is that trade — a smaller, known return in place of a large, unknown one.

This module exists because "fixed" tricks beginners into skipping the inspection an owner would never skip. The rate is written down, so the reading feels finished. It is not. A fixed return is a promise to inspect — who is making it, for how long, and what tax and inflation leave you with — not a shield that makes capital untouchable.

Strip a bond or FD to its parts and it is an IOU with three details: a borrower, a rate, and a date.

The rate is the coupon — the fixed interest the borrower promises, usually a percentage of the amount, paid yearly or half-yearly. An 8% bond of ₹1,000 pays ₹80 a year. An FD works the same way, though the interest often just accumulates and is handed back with the principal at the end. The date is maturity, when the principal must be returned and the arrangement ends. And the borrower — the part beginners skip — is who owes you the money, because a promise is only ever as good as the person making it.

Now the one piece of bond behaviour that surprises almost everyone: a bond's price and its yield move in opposite directions. Yield is the actual return a buyer gets at the bond's current market price, and it is the number that adjusts. Here is why they invert. Suppose you hold a bond paying a fixed 6%, and market interest rates then rise to 8%. Your bond still pays only 6% — that coupon is frozen. A new buyer, who could instead buy a fresh bond at 8%, will not pay you full price for a 6% one. So the price of your existing bond has to fall until, at that lower price, it effectively yields about 8% to whoever buys it. Rates up, existing-bond prices down. Rates down, existing-bond prices up.

This inverse only bites if you need to sell before maturity. Hold the bond to its date and you still collect every coupon and your principal back, whatever prices did in between. But if life forces an early exit, the price you get depends on where rates have moved since you bought. That is why the maturity date is not a footnote — it is the difference between a paper wobble and a real loss.

An FD hides this same idea in plainer clothes. You cannot watch an FD's "price" tick, but if you break it early to chase a higher rate elsewhere, the bank charges a premature-withdrawal penalty — usually shaving a bit off the interest rate you actually earned. The lock-in is real; it just shows up as a penalty rather than a falling quote.

Here is the single number every Indian saver should carry, because it is the one that decides how much of "safe" is actually guaranteed.

Bank deposits in India are insured by the DICGC — the Deposit Insurance and Credit Guarantee Corporation, a subsidiary of the RBI. The cover is ₹5 lakh per depositor, per bank. That limit includes both your principal and the interest on it, and it lumps together all your accounts at that one bank — savings, current, and every FD — into a single ₹5 lakh ceiling.

Two things follow. First, "bank FD" and "fully protected" are not the same phrase once your balance at one bank passes ₹5 lakh. Second, a corporate FD — a fixed deposit with a company rather than a bank — has no DICGC cover at all. That is a large part of why companies must offer higher rates than banks: they are asking you to lend unsecured, without the insurance net, so they pay you more to accept the extra risk.

The arithmetic here is kind — but you must run it after tax and after inflation, not before, or the number lies to you.

Start with the headline. A ₹1,00,000 FD at 7% earns ₹7,000 of interest in a year. That is the poster figure, and it is where most people stop.

Now take tax out. FD interest is added to your income and taxed at your slab, and the bank deducts TDS — tax at source — once your interest at that bank crosses the annual threshold, paying you the rest. At a 30% slab, that ₹7,000 becomes about ₹4,900 in hand — an effective 4.9%, not 7%. At a lower slab the bite is gentler; a person with little other income may pay almost nothing. The same FD is a different deal for different people, purely because of the slab.

Now take inflation out. If prices are rising about 6% a year, then a 4.9% post-tax return means your money's purchasing power is quietly falling by roughly 1% — the real return is negative. The rupee balance still grows; what those rupees can buy does not. This is the whole reason a fixed return can feel safe and still lose you ground. A fixed rate protects the number, not what the number can buy.

The most useful habit in fixed income is to stop reading the rate and start reading the borrower. Line up four ways to earn a similar rate and the inversion jumps out: past a point, a higher promised rate is not a better deal — it is a louder warning.

A bank FD earning around 7% comes from inside the banking system, with DICGC cover up to ₹5 lakh. A sovereign bond — a Government of India security — at a similar rate carries the lowest credit risk in the country, because the government can tax and, ultimately, print to repay; there is no safer rupee borrower. A AAA-rated PSU or top-company bond pays a little more, because even the strongest company is a shade riskier than the state. And a small-company or corporate FD at 10–11% pays much more precisely because the chance it cannot repay is real, and there is no insurance behind it.

Read left to right and the pattern is not "more return." It is "more risk, priced as return." The extra percentage points are the market's estimate of how likely you are to lose the principal — payment for danger, not a reward for cleverness. When a rate looks unusually generous, the correct first reaction is suspicion, not appetite.

Take the comparison that catches the most savers. illustrative

A bank offers a ₹2,00,000 FD at 7%. A finance company offers a bond at 10%. Side by side, 10% simply looks like 7% with more money, and the choice feels obvious.

It is not a like-for-like choice, because the two are different objects wearing the same "fixed return" label. The 7% comes from a bank, inside DICGC cover up to ₹5 lakh, with the whole banking system's supervision behind it. The 10% comes from one company's promise, unsecured, with no deposit insurance, and with a resale market that may be thin if you want out early. The extra 3% is not free money — it is the price the company must pay to compensate a lender for a genuine chance of not being repaid at all.

So the honest reading is not "10% beats 7%." It is "10% is what it costs this particular borrower to get me to accept its risk — is that risk one I can actually judge, and can I afford to be wrong about it?" For a large chunk of a household's safety money, the answer is usually to stay with the insured 7% and sleep, not to reach for the 10% and hope. The reach might work. But a fixed return only feels like safety; whether it is safety depends entirely on the borrower behind it.

Knowing you are the lender protects you from the biggest fixed-income errors. It does not answer everything, and pretending "fixed" settles the matter is its own trap.

A fixed rate cannot tell you whether the borrower will actually pay. The coupon is a promise; a promise from a weak borrower is worth less than the same promise from a strong one, no matter that the printed rate is identical.

It cannot tell you what the money will be worth when it returns. Inflation works silently in the background; a rate that looks fine today can be a real loss after tax and rising prices, as the maths section showed.

It cannot tell you what an early exit will cost. Sell a bond before maturity and the price depends on where rates have moved; break an FD early and a penalty trims your interest. "Fixed" describes the promise if you hold to the date — not the cost of getting out sooner.

And it cannot make a large deposit fully insured. DICGC stops at ₹5 lakh per bank. Beyond that line, "bank FD" and "guaranteed" quietly part ways, and only spreading the money restores the cover.

The same handful of confusions catch saver after saver. Name them once and the higher rate loses its hypnotic pull.

1. Reading a high rate as a good deal. Past the safe baseline, extra interest is payment for extra risk. Ask who is borrowing before "9%" or "11%" feels attractive.

2. Thinking a whole bank balance is insured. DICGC covers ₹5 lakh per bank per depositor, principal and interest together. Above that, spread across banks or accept that the excess is uninsured.

3. Confusing a bank FD with a corporate FD. A company FD has no deposit insurance and is only as safe as that company. The word "FD" hides a very different borrower.

4. Judging a rate before tax. FD interest is taxed at your slab, with TDS deducted at source. The 7% poster is a pre-tax number; what lands in hand is smaller.

5. Forgetting inflation. A positive nominal return can be a negative real return. Purchasing power, not the rupee balance, is the honest scoreboard.

6. Believing "fixed" means "no price risk." Sell a bond before maturity and rising rates will have lowered its price. The coupon is fixed; the resale value is not.

7. Treating a lock-in as costless. Breaking an FD early triggers a penalty; a bond may be hard to sell at a fair price. Certainty of return assumes you hold to the date.

8. Expecting growth from a loan. As a lender you get the coupon and your principal — never a share of the borrower's success. If you want the upside, that is equity, and a different set of risks.