In the wake of the 2008 financial crisis, interest rates plummeted and savers likely saw very limited returns on their cash savings. However, over the last few years, the situation has changed.
The Bank of England (BoE) raised its base rate 14 consecutive times between December 2021 and August 2023 to combat rising inflation. After pressure from the government, banks began increasing their cash savings interest rates alongside it.
As a result, you may be thinking that now is a good time to move your wealth into a cash savings account instead of investing it because you could see healthy returns with less risk. This might seem especially attractive during a period of market volatility when investors are concerned about potential losses.
Yet, cash is not necessarily as safe as some people assume it is and, in many cases, investing could be a more effective way to grow your wealth.
Read on to learn whether cash or investing is more likely to help you achieve your long-term financial goals.
Inflation Stood At 4.6% In The 12 Months To October 2023
After a period of low cash savings interest rates, it is easy to be excited by the significant increase over the past couple of years.
Indeed, according to Finder, the average UK savings account interest rate in May 2022 was 0.51%. A year later in May 2023, it had risen to 2.43%.
Current interest rates are even higher – Moneyfacts reports that the best easy access cash savings account interest rate on 3 November 2023 was 5.20%.
In isolation, these interest rates appear very attractive, and you may think that a cash savings account is a relatively safe and easy way to generate growth. However, it is important to view interest rates in a wider context.
According to the Office for National Statistics (ONS), inflation was 4.6% in the 12 months to October 2023.
In practice, this means that the same goods and services that cost £1,000 a year before would now cost £1,046.
Yet, if you put that £1,000 in a savings account with an interest rate of 5.25%, you would have £1,052.50 the following year. So, the purchasing power of your wealth would still only just outpace the rate of inflation, despite you benefiting from increased cash savings interest rates.
As such, leaving large amounts of your wealth in a cash savings account can be a risk. While it may be useful to have a cash emergency fund – usually three to six months’ worth of expenses – you may want to consider investing additional funds instead.
Current Cash Savings Interest Rates Could Disappear Soon
The BoE reviews its base rate regularly and in the most recent meeting on 2 November 2023, decided to keep it at 5.25%, a decision it also made in its September review.
This marked a break in the regular increases we’d seen since December 2021, and serves as an important reminder that interest rates may not stay at their current levels forever.
If the base rate has peaked and begins to fall soon, cash savings interest rates could fall with it. As such, moving wealth into a cash savings account with a variable rate may not be an effective long-term strategy as you could lose favourable interest rates in the near future.
It is also important to note that interest rates in 2023 are not especially high compared to historical rates.
According to BoE figures, for example, the highest recorded base rate was 17% on 15 November 1979 and through the 1970s and 1980s it regularly exceeded 10%.
In fact, the low interest rates we have seen since 2008 were perhaps more unusual and recent rates of around 5% could be considered a return to normality.
As such, you may want to avoid a rushed move to cash savings as interest rates are not as exceptionally high as they might appear.
Long-term Investment Growth Could Help You Beat Inflation
Many people are apprehensive about investing their wealth because of the potential risks. Your investments could fall in value and past performance does not guarantee future returns, so you always assume some risk.
However, leaving your wealth in a cash savings account can also be considered a risk when interest rates are lower than the rate of inflation.
Additionally, when you take a long-term approach to investing, you may find that the risk is potentially lower as the markets have time to recover from short-term fluctuations.
The following graph shows the performance of the FTSE 100 between 5 April 1993 and 5 April 2023:
Source: London Stock Exchange
As you can see, in this 30-year period, the market showed a general upward trend. This is despite a number of significant market disruptions including the 2008 financial crisis, several wars, and the Covid-19 pandemic.
If you were to invest for a short period, you may have experienced losses during these market downturns. Yet, if you remained invested for the full 30-year period, the markets would have had time to recover and continue growing, and you would have seen growth of 171.29%.
Consequently, if you take a long-term approach to investing, you may be more likely to see growth that outpaces inflation. But if you keep your wealth in a cash savings account instead, you cannot benefit from this potential growth and your savings could lose value in real terms.
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This blog is for general information only and does not constitute advice.
The value of your investments (and any income from them) 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. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.