Tuesday, 28 April 2015

What's the Best Way to Use the Repo Rate Cut to Your Advantage?

RBI reduced Repo rate by 25 basis points

RBI announced a repo rate cut and all jaws dropped with confusion. I, for one, wasn’t sure if this was a good thing for my money or whether I should be really worried.

Turns out, I had nothing to worry about. The repo rate cut announced by RBI is one of the best that could have happened to all investors and depositors across the country.

Commercial Banks will reduce rate of interest on loans

The gist of this piece of news is simple. Commercial banks will have to reduce their lending rate, that is, the rate of interest charged on loans they give out. This reduction should see the light of day somewhere around April, as per current speculation. There is no evidence to support this prognosis.

What is the good news in the above deduction? Well, the demand for loans will eventually have to increase when the banks reduce their lending rates. In the event that the demand for loans increases, banks will need to have enough funds to supply for the increased demand.

Best time to invest in a fixed deposit

And that’s the good news, the rates of interest offered on fixed deposits will decrease in the future, but right now they are at an all-time high. They will continue to be as long as banks need to gather funds for the predicted drop in lending rates.

Repo rate won’t affect commercial banks at least for a few months

That’s more interesting is the fact that commercial banks don’t borrow all of their money from RBI, instead they pick up funds from the market. This means that RBI reducing its repo rate won’t affect the banks for a few months and hence they will use these months to collect money as deposits for future lending purposes.

It is a good time for depositors and investors to lock in their money and opportune interest rates.

How much to deposit into a fixed deposit account?

Depositors can consider dividing a sum of say Rs.5 lakhs into 5 separate deposits of Rs.1 lakh each in order to enjoy maximum returns on their investments.

What about debt investors?

Debt investors, especially, should invest in medium to long term funds for maximum benefit.

Dual opportunity in debt

In fact debt offers a dual opportunity with the reduced repo rate coming into play.
On one hand, capital appreciates from easing yields and other the other hand, credit opportunity from improved corporate fortunes.
Word of caution though, a minimum 2 years have to be set aside for both to come to pass.

What happens to rate sensitive markets with the reduced repo rate?

Another question that is interesting is, how does the repo rate cut affect the rate sensitive sectors?
The year that is coming up is good for rate sensitive sectors like, capital goods, auto and banking. They will do well with the reduced repo rates in the next 12-15 months.

What about loans taken that can be invested into fixed deposit accounts?

For those who are looking to pick up loans in order to use this opportune time for investments, a word of advice.
It is best to take loans on floating rates of interest right now. The EMI on such loans will come down substantially when commercial banks employ the reduced rates of lending.