Uncomfortable losses for bond investors and sustained volatility in the equity market may make cash a tempting proposition, particularly with headline interest rates exceeding 5%. Many savers have piled large sums into savings accounts. This can make sense in the short term, but it hasn’t been successful in growing wealth in the long run.
Are interest rates peaking?
While cash may offer immediate comfort, high rates are likely to be temporary as they typically follow the direction of the base rate set by the Bank of England. The Bank of England is expected to lower its rate from 2024. Meanwhile, bond funds offer the potential for substantial gains in a falling rate environment. Investors should weigh up the risks of investing in fixed income funds against the reinvestment challenge if interest rates were to fall and bond yields rise.
The invisible inflation ‘tax’
At face value cash may appear to offer the best capital protection, but the impact of inflation is often overlooked. The purchasing power of your wealth comes from real returns, which is when you deduct inflation from the nominal return or interest. Although interest rates soared in 2022 and 2023, cash has historically yielded negative or minimal real returns, even over long periods – see table below.
History favours investors over cash savers
While UK equities underperformed cash in 2022, the table shows they have outperformed both cash and UK government bonds (gilts) in real terms over long periods. Holding more than an emergency cash reserve (which can be used to cover a job loss or other urgent financial issue) could be short-sighted.
Savings accounts are unlikely to match the returns generated via an investment account over the long term. The longer your investment horizon, the greater your chance of succeeding with equities and other investments. Patience and discipline are key when investing, as there will be leaner years, alongside fruitful years where you harvest strong returns.
The benefits of staying invested
Predicting successful exit and re-entry points into the market is an immensely challenging task, even for the most sophisticated investors. Bloomberg data shows that if an investor missed the 10 best days for global equities over the two decades from 2002 to 2022, they would have seen their annualised returns cut by over 3% per year. Long-term investors are best-served by sticking to a defined strategy, in line with the principle of ‘time in the market’, rather than ‘timing the market’.
Cash is ultimately designed to fulfil short-term needs. Any money set aside for the long term can expect a superior return over time if it’s invested in more suitable long-term assets. To find out more call 03300 564 446, or get in touch via our contact form.
This article is for general information purposes only and does not constitute financial advice or a personal recommendation. Past performance is not a reliable indicator of future results. Investments can rise or fall in value, and you may receive less than you originally invested. Tax treatment depends on individual circumstances and may change in the future.
