The last few years have been miserable ones for savers. Rock-bottom interest rates for more than a decade have provided desultory returns on cash savings, and it’s been hard to generate any meaningful return.
While rising interest rates can mean good things for you and your savings, you may have noticed that despite the Bank of England (BoE) increasing the base rate, your money isn’t going as far as you would expect.
In fact, the UK’s high inflation rate means that if you have large sums held in cash, your money is still likely losing value in real terms. Indeed, MoneyWeek reports that the average UK savings accounts lost £4,000 over the last 10 years.
Many people choose cash savings over other types of assets as they are “low-risk”. If your savings with any institution are below the Financial Services Compensation Scheme (FSCS) limit of £85,000, you’re guaranteed to get your capital back, whatever happens in the wider economy.
In addition, investing can sometimes seem intimidating, and you may be concerned about the potential risks involved. If so, you’re not alone. A report by Your Money revealed that 47% of UK adults have never invested money before and have no plans to do so.
Moreover, 1 in 6 of those surveyed said they were scared of investing and 9% said the long-term commitment of investing was a turn-off.
While there are risks involved in investing, keeping too much cash in savings is a risk in itself. With that in mind, here are two reasons why taking too little risk could cost you more than you might think.
1. High inflation could see your cash savings lose value in real terms
With the latest figures from the Office for National Statistics (ONS) showing that the UK’s inflation rate stood at 7.9% in June 2023, your cash savings could well be losing value in real terms.
The current inflation rate means that goods and services are generally more expensive than they were a year ago. Goods and services that cost £100 a year ago will cost £107.90 now.
According to Moneyfacts, as of 10 August 2023, the best instant access savings account pays an interest rate of 4.80%. So, if you saved £100 at this rate a year ago, you’d have £104.80 now.
You can see that the value of your cash savings would not have kept pace with rising prices and would be worth less in real terms.
Research by pension provider Royal London goes one step further to show the effects of inflation on £10,000 in savings. The research reveals that a sustained inflation rate of 5% over 10 years could reduce your money’s value by 34% in real terms, bringing its spending power down to just £6,564.
As a result, you may then not have enough money to fund your future plans, whether that is a house purchase or early retirement.
Keeping too much cash in savings can be a risk in itself. Ignoring the potential returns of investing and taking little to no risk could mean your wealth diminishes in real terms, leaving you short of what you need later on.
2. You likely won’t achieve the growth you need to meet your longer-term goals
While interest rates in the UK are continuing to rise in a bid to combat high inflation, your cash savings may still not be generating you the returns you need to meet all your long-term goals.
Source: Vanguard Investor
As shown in the graph above (using data from 31 December 1998 to 31 December 2022), returns from cash savings compare poorly to the potential returns earned by investing.
While cash savings are risk-free (in that you’ll generally get a return of your capital) the returns you earn lag far behind other options. Indeed, when you take inflation into account, the returns over this period would have seen your wealth fall in value in real terms.
Consequently, you might not achieve the growth you need to generate the returns required to meet your financial goals.
Conversely, over time, investing can provide the potential for growth that exceeds inflation, helping you to grow your wealth.
Indeed, the Times Money Mentor reports that, as of July 2023, the average annual return for the FTSE 100 was 7.3% over the past 30 years, provided that dividends were reinvested. That compares favourably to the 2.1% average annual growth in inflation over the same period.
So, if you remain calm and hold a diversified portfolio aligned with your risk tolerance, long-term investing has the potential to provide the growth you need to meet your long-term goals.
Remember that the value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
Working closely with a financial planner could help you determine the level of risk you’re prepared to take
If you want to grow your wealth and achieve your long-term goals, taking an element of risk can give you this opportunity.
“Risk” doesn’t simply mean investing all your savings in stocks and shares. Working with a financial planner can help you build a diversified portfolio that considers your personal risk profile and financial circumstances. This is likely to feature a wide range of assets including cash, bonds, and equities.
We can use sophisticated cashflow modelling techniques to help understand your capacity for loss and to develop an investment portfolio that aligns with your goals and your tolerance for risk.
To find out how we can help you, please get in touch by email at enquiries@hda-ifa.co.uk or call 01242 514563.
Please note
The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.
The Financial Conduct Authority does not regulate cashflow planning.
