Amid the coronavirus pandemic, the Bank of England slashed interest rates. As a result, you may be wondering how you can get the most out of your savings. For some, investing can provide an alternative way to help funds grow but that doesn’t mean it’s the right option in every situation. So, what should you consider when deciding to save or invest?
Saving in cash
Saving in cash means your money is secure and you earn interest. In the past, when interest rates were higher, this may have helped your savings to grow in real terms. However, it’s been a very different picture over the last decade.
Since the 2008 financial crisis, interest rates have been low. Faced with a pandemic, the Bank of England chose to make two interest rate cuts in quick succession in March. The central bank’s base interest rate is now just 0.1%, the lowest it’s ever been. As a result, it’s likely your cash savings are earning very little in interest.
This might not seem too bad at first glance, especially when you consider the security that cash assets offer. After all, the Financial Services Compensation Scheme (FSCS) means up to £85,000 is protected per individual per bank or building society even if the institution fails. However, once you start looking at inflation, it’s a different picture.
Inflation of a few per cent a year can add up over the long term. When you look at your savings in real terms, your spending power will likely decrease slowly while interest rates are low, decreasing the value of your savings.
In contrast, investing comes with the potential to deliver higher returns than inflation, allowing your spending power to grow over time. Historically, investments have delivered returns. Take a look at the FTSE 100 over a 20-year period, for example, and you’ll see that the overall returns have outpaced inflation. This means your money is growing in real terms.
But this comes with a drawback too: risk.
All investments carry some level of risk. As a result, it’s possible that you won’t get back the full amount invested and at times you’ll experience severe volatility, such as the recent dip in March. As a result, you should invest with a long-term time frame in mind, helping to smooth out the peaks and troughs.
Understanding your priorities
When asking if you should save in a cash account or invest, there’s no straightforward answer. Your priorities and goals are essential.
Typically speaking, a cash account is appropriate for short-term saving goals, those within the next five years. It should also be used to save funds that you may want to access at short notice, such as your emergency fund. Over a short period, the effects of inflation are far smaller.
In contrast, investing may be appropriate to consider if you have a long-term goal in mind. This provides an opportunity to reduce the impact inflation would have over the long term while balancing the risks of investing for only a short period.
Whatever your goals are, these should be the centre of your financial decisions, including whether to use a cash account or invest. However, while the focus is on often on time frames when deciding what to do, there are other factors to consider too. These include:
- Your overall attitude to investment risk
- The risk profile of existing investments
- Understanding your existing assets
These also help to inform the level of risk that’s appropriate for you, should you decide investing is the right option. While all investments involve some risk, the level varies significantly. Typically, higher-risk investments have a higher potential return. Your investments and risk profile should be tailored to you and ensure that you feel comfortable with the process.
If you’d like to discuss any aspect of your financial plan, including saving and investing, please get in touch. We’re here to help you create a plan that matches your goals, priorities and finances.
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.