The level of interest rates on certain savings accounts today could supposedly challenge the notion that investing is the right financial move. Considering that the highest-paying savings accounts offer a 5% interest rate, it raises the question of whether it would be more sensible to deposit the pension funds in a bank instead.
In this article, we will explore whether you should invest or rely on savings account rates, and what the results could look like.
Investing or relying on high interest savings accounts rates?
It is essential to acknowledge that the decision to exploit savings accounts rates is not something that should be automatically recommended. Any decision like this should consider the benefits of the “free money” obtained from employers and the government through contributions to a workplace pension scheme. Nevertheless, many individuals might be enticed to rely on cash investments rather than the stock market.
Retail investors have been consistently withdrawing more money from equity funds than they have been investing in, spanning over a period of 11 months leading up to March, as reported by the Investment Association, a prominent trade body in the finance industry. Although there has been a recent shift in the trend, with some funds witnessing inflows, the amounts being allocated are relatively modest.
Savings accounts rates reliance and its results
Interestingly, many new investments are directed towards more cautious fund types. In fact, money market funds emerged as the most popular category in April 2023, which essentially functions by safeguarding your capital in cash-like instruments.
During the month of April, a staggering £11.9 billion poured into cash Individual Savings Accounts (ISAs), while a mere £382 million made its way into stocks and shares ISAs. The driving force behind this stark contrast can be attributed to the current state of savings rates, which have reached their highest levels in the past 15 years.
Consequently, households are feeling the pinch, or rather, they find themselves caught in the clutches of double-digit inflation, which creates a squeezing effect on their financial well-being. The reasons make sense, but is relying on savings accounts rates this much a smart financial decision?
The security of savings accounts interest
When individuals are presented with an opportunity to earn a risk-free return of 5% on their money, the notion of taking an unnecessary gamble by investing in the stock market appears to be a luxury that many simply cannot afford.
Investment professionals will highlight the impact of inflation, pointing out that holding cash in a bank account leads to a loss in real terms over time.
However if you were to deposit £100 into a bank today, in one year’s time, you would still have £100 or possibly even £105. There is a certain level of comfort in knowing that, despite the potential decline in the purchasing power of that £100, the nominal value remains intact.
On the other hand, if you were to invest that same £100 in the stock market today, it could appreciate to £120 by the following year, but that is far from a guarantee. That is the inherent risk of investing, although long term the risk does tend to pay off.
Why savings accounts aren’t the answer long term
Of course, this argument becomes more complex when viewed from a long-term perspective. Wealth manager Interactive Investor conducted a comprehensive analysis comparing the growth of money in cash versus the stock market over the past 35 years.
Assuming one maximised their annual ISA allowance, the total savings accumulated during that period would amount to £377,760. If this sum were held in cash, it would have grown to £591,386. However, investing the same amount in the FTSE all-share index would have resulted in an even more impressive value of £1.37 million.
Similarly, Schroders, an investment group, examined performance data spanning 96 years for both cash and stock market investments, revealing that equities consistently outperformed inflation over every 20-year interval.
Using savings accounts for returns doesn’t help diversification
It’s common advice to tell investors to avoid putting all of their “eggs in one basket” and this can also apply to currency. When it comes to safeguarding money from market risk, cash performs admirably, but it provides far less protection against inflation. Equities operate in the opposite manner and holding a diverse variety of assets is a key reason why that’s the case.
Bonds and other alternatives provide the best possible trade-off between market risk and long-term inflation protection. At Brite we have access to assets like infrastructure and bonds that are explicitly created to hedge against inflation.
It’s also important to keep in mind that since rates fluctuate in accordance with the Bank of England Base Rate, cash is not fully free from market risk. While you might be able to receive 5% today, there is no guarantee that this rate will hold over the long run. The BoE is now expected to lower interest rates at some point in 2024, according to bond markets.
Using both interest in savings accounts & investing can be a good strategy
Common sense would suggest that if individuals choose to allocate their funds elsewhere instead of a bank, they must possess confidence that their investments will yield a growth rate exceeding 5%. However, as discussed, long term the stock market is the proven way to safeguard against inflation and grow your money, so perhaps an individual’s priorities can be the biggest factor in this decision.
Ideally, both savings and investments should form part of one’s financial strategy. During periods of uncertainty, the desire for certainty becomes even more pronounced.
At least for the short term, it can be a sensible approach to maintain a risk-averse stance and prioritise capital preservation, but in the long run that is not the case. Both cash and stocks and shares are subject to various risks. Cash can cause actual losses across longer time frames, spanning the last two decades, but stocks also come with risk, particularly when kept for shorter amounts of time.
Ultimately, the decision as to whether to exploit the current level of rates offered in savings accounts, or invest in the stock market, does depend on whether an individual is happy prioritising the short-term over the long-term. Investors are told to always consider the latter first, but it is understandable that more people are considering the near future because of the current financial climate. At Brite we take the view that although investing may be a bumpy ride, the rewards at the end mean the journey is worth taking.
Investing with Brite
At Brite, our investment philosophy is based on taking the long view and thinking
protection first – as nobody knows what’s around the corner. Learn more about our investment strategy here.
However, you can choose the level of risk you’re comfortable with, and we will provide you with a portfolio that meets your requirements. You get access to highly qualified asset managers that determine the best way to invest your portfolio and maximise value over time.
Contact Brite here to learn more about global investing and get started today.