In last week’s article, we figured out the stability of a financial institution based on its financial information. This week we will take a look at the non-financial statistical data to establish the stability of a financial institute and discuss some useful tips to gain the maximum mileage out of your Fixed Deposit (FD).
We took into consideration the link between the size of the financial institution and its stability. We also considered as to how a financial instition is selected based on the comparison of financial data such as Net interest income, Profit before taxation (PBT), Profit after taxation (PAT), Total assets, Lending portfolio, Deposits, Borrowings, Equity and Non-performing Advances (NPA).
We have taken into consideration ratios such as Equity to deposits, Liquidity ratio, Return on assets (ROA), Return on equity (ROE), Net interest margin (NIM) and Non–Performing Advances (NPA).
It is useful to find out whether the monies you are investing in Fixed Deposits are being used for the core business of the financial institution or not, which was one of the main reasons for failure of financial institutions, in the past.
Credit to deposit ratio
This ratio is known as the Credit to Deposit ratio. This ratio indicates how much of the advances disbursed by the financial institution, have been done using money placed on the deposit. It is the proportion of loan-assets created by banks from the deposits received.
The higher the ratio, the higher the loan-assets created from deposits. Deposits would be in the form of current and savings accounts as well as Term deposits. The outcome of this ratio reflects the strength of the financial institution to make optimal use of the available resources.
Provision coverage ratio
Also, try and find out the Provision coverage ratio of the financial institution. This will give you a good indication of the additional losses, the financial institution will have to incur in the coming years.
It is a measure that indicates the extent to which the bank has provided for losses against the troubled part of its loan portfolio. A high ratio suggests that additional provisions to be made by the bank in the coming years would be relatively low (if gross non-performing assets do not rise at a faster rate).
In the Sri Lankan banking industry, the large banks category (asset base more than Rs. 500 bn) maintains a provision cover of 65% whilst medium bank category (Rs. 300 bn to Rs. 500 bn) maintains same at 50% and small bank category (less than Rs. 200 bn) maintains same around 36%.
This factor again signals the fact that the large banks are mitigating their risk to a greater extent than the other two categories, making them safer than other two.
Non-financial statistical data
Let’s now look at the non-financial statistical data which are relevant to the strength of a financial institution before placing a deposit.
Board of Directors and the background of the company - Check who are the members of Boards in the websites of the institutions where you are planning to place your deposit. You may know some of them. Then, check their credentials on the internet. Simply type their names to see who they are. You can find 60%-70% of them on the internet or in Linkedln. You can even try Social Media for that matter.
Also, find out the age, history and the background of the company. If the company is in a group, find out the strength of the group, product diversification of the group and the credit rating.
Ratings
Checking ratings allocated by reputed Rating Agencies is another way of establishing the strength of a financial organization. The rating outlook can be ‘Positive’, ‘Stable’ or ‘Negative’.
In the websites of individual companies, the ratings are displayed. If not the same could be checked with the financial institution before your deposit is placed. All financial institutes are supposed to display their ratings to the public as per CBSL directions.
Tips for gaining better benefits
Know your basics: Be prepared with basic information of the Fixed Deposit and some information with regard to the institute in which you are planning to place your deposit.
Your knowledge on the product, financial literacy, and awareness of customer rights, will put the officers on the other side of the counters on a defensive mode when terms are negotiated. This approach will put you on a better footing and the officers concerned of the financial institution will be more cautious, responsible, responsive (and finally more polite) towards you.
Depositor protection insurance scheme: All financial institutes are mandated to have an insurance cover up to a limit of Rs 600,000 per depositor. Find out details of this insurance scheme which has been introduced to safeguard the interests of depositors, from the Financial Institution concerned.
Know the appropriate time to make your deposit: Timing is very important as far as the rate of your deposit is concerned. All banks end their financial year at the end of December whilst finance companies end their financial year at the end of March.
To make their Books look attractive before the financial year ends, some of these places offer very attractive rates of interest. Hence, be mindful of these opportunities.
Negotiate a rate above the published interest rate: The Central Bank of Sri Lanka (CBSL) gives all banks and finance companies an interest rate cap which cannot be exceeded under any circumstances.
Financial institutions, publish rates keeping a margin to negotiate within this ceiling. If you are smart enough and if you have a large amount of money you should be able to get a better rate than the published rate, (unless or otherwise a policy decision has been taken by the particular institution, to not offer higher rates than the published rate). Therefore be mindful of this aspect as well.
Choice of tenure (the period of deposit): Based on your future cash flow requirement, you can decide on the tenure for which your money is fixed. With many institutions offering different rates of Interest based on the tenure, you get a choice of tenure to fix your funds as per your financial requirements.
The tenure of a fixed deposit usually ranges from one month to five years and the rate of return (interest rate) provided by the bank differs for different tenures. However, be extra vigilant if you are planning for a longer duration.
It is also advisable to have a dedicated deposit, fixed for a year to pump its’ interest portion annually to keep up with annual inflation, to the deposits from which you extract interest monthly. This will help you to face price hikes of goods and services in the market in the coming years. However, keep the capital of the deposit intact to meet the inevitable annual inflation.
Premature withdrawal: You cannot withdraw money from a fixed deposit before maturity. But, if you need funds due to some emergency situation or personal needs, you can make a premature withdrawal of your fixed deposits by paying a penalty. Also, the rate of interest might differ on the basis of tenure, so that money cannot be withdrawn from an FD account before maturity, except on payment of a penalty.
To avoid such situations, you can have multiple deposits. In case, if you are in need of money halfway through the deposit period, one of the deposits can be withdrawn. Under such circumstances, the penalty can be minimised and it is applicable only to the deposit which you are withdrawing.
Loans: You can also take a loan against your FD, as an overdraft facility. A Loan against your fixed deposit will carry a higher interest than your FD. But it is still worthwhile depending on your circumstances. Assume you have come across a vehicle at a bargain price.
You can obtain a loan for a short period, buy the car which is on offer, and sell it for a higher value. Then, settle your loan which you have obtained against the deposit and enjoy the extra money you earned through the transaction.
Likewise, there are many benefits that you can enjoy while keeping the originally agreed rate of return intact, when you obtain a loan against your Fixed Deposit and settle same before the maturity of the FD.
Since 80-90% loans can be obtained against the value of your Fixed Deposit, obtaining a loan is more prudent than a premature withdrawal. You can ask the financial institution for more information on this aspect.
Special scheme partly sponsored by the government for Senior citizens:
Senior citizens, over 60 years of age are eligible for a special deposit scheme, partly sponsored by the government. Under this scheme, bank depositors are eligible for an interest rate of 15% up to a limit of Rs 1.5 mn. You can check with your Bank Manager for further details on this scheme.
Additional benefits: There are many other benefits added to fixed deposits. Check with the financial institution for such benefits as these are usually not disclosed, due to regulations.
When the deposit is placed with a large Group of companies, many cross-selling options are available within the group for their customers. Check for these additional benefits which are not published.
Availability of Savings accounts linked to the Fixed Deposit, ATM facilities, Debit card, internet banking are some of the other useful value-added options available. Usually, no extra charge is levied for these facilities. Check for these value-added services before the deposit is placed.
At present, the non-banking financial industry (excluding banks) has over three million depositors. The average size of a deposit is around Rs 200,000. This is a very clear indication that the benefit of this product is being enjoyed mainly by ordinary people of this country. However, they should know the basics before making a deposit.
This series of articles is to educate the public (especially the pensioners). In the next article, we will discuss how credit (personal loans, credit cards, leases) can be used sensibly, for the betterment of our lives.
The writer holds a Masters Degree in Business Administration from the UK and is a former CEO of a non-banking financial institution.