Savers should be prepared to take more risk if they are to preserve the value of their money, as inflation continues to eat away at the value of cash in savings accounts.
Inflation data released by the Office for National Statistics (ONS) showed that the cost of living rose by an annualised rate of 2.5% in July – up from 2.4% in June and reversing the downward trend it has exhibited since it peaked at 3.1% last November.
For savers, this is a real blow. Research shows that only a paltry 26 out of 586 widely available fixed-rate savings accounts offered interest rates that beat the rate of inflation in July*. That means that a shocking 560 fixed-term savings accounts and cash ISAs still lost value in real terms once inflation is taken into account. Hardly any of the major banks or building societies have passed on the August interest-rate rise to savers.
It is almost impossible to keep hopping from bank to bank to chase the best savings rates and many economists say the likelihood is that rates will stay below historical levels for many years to come.
Ian McCafferty, an outgoing member of the Bank of England’s Monetary Policy Committee (MPC), which decides when to move interest rates, told the Guardian newspaper in August that rates will stay at rock-bottom levels for another 20 years, notwithstanding his prediction for a couple of quarter-point rises in the next 18 months to give the Bank of England room to manoeuvre.
With interest rates forecast to stay so low, inflation can have a devastating effect on cash savings and the assumption that cash is a “safe” home for your money is a myth.
“The simple truth is that to preserve the value of your money you need to take more risk than a savings account” said Rob Burgeman, divisional director at Brewin Dolphin. “You can spread your money around a variety of pretty safe assets, but you need some equities to do the heavy lifting and give your money a fighting chance of maintaining value over the medium to long term.”
It is therefore necessary to look further up the risk ladder to see what investments offer a better chance of preserving the value of your wealth. Historically, by far the most effective investments have been stocks and shares. Over the past 10 years, for example, the return on cash after taking inflation into account has averaged -1.36% a year, eroding the value of a £10,000 investment by £1,280.
The annualised return on the FTSE All Share index, however, has been 5.1% over 10 years after factoring in inflation, turning a £10,000 investment into £16,454, and equating to a real profit of 64.5% - over and above increases in the cost of living.
There have been big drops in the market during the past 10 and 15 years, not least the financial crisis in 2008, but share values have always bounced back. The return over time far exceeds anything that could be obtained by cash.
“Most people still think that cash in the bank is risk free” said Burgeman. “But inflation is a silent killer, and banks do not have to warn you about its impact. A more accurate bank statement would show the affect that inflation was having on your money, and include warnings that cash savings may lose value over time.”
*Survey by Savingschampion.co.uk
The value of your investments can fall and you may get back less than you invested. Past performance is not a guide to future performance. The information contained in this article is believed to be reliable but without further investigation cannot be warranted as to its accuracy or completeness.