In a bid to attract deposit holders in the last recession in 2007/08, banks offered a fixed rate of 5% per annum for 5 years. These were in accounts guaranteed by the State so for no risk, you were getting a high return, something that goes against the norms of investing. The ECB started cutting rates since the last recession and they have been at zero or lower for over 5 years now and there is no sign of interest rates increasing in the next year or two. This is forcing deposit holders to have a make a decision about their money. The options aren’t good.
If you are risk adverse and do not want to take any risks with your money, you can just leave it where it is. Like an equity investor accepts the value of their money can go down in value as well as up, a deposit investor will have to accept periods of little or no interest rate return on their money.
There is of course, the silent form of investment risk of inflation. The real value of your money will decrease in value over time meaning that you can get less for it the longer it is left on deposit earning no return.
The State Savings offer a range of State guaranteed savings plans. There are regular saver products and fixed term products from 3 years (0.33% AER) to 10 years (1.5% AER) and there is no DIRT payable. The great thing with the State Savings products is that you can access your money at any time albeit earning a reduced return on your money. It is certainly a better option for those who do not want to take investment risk with their money and don’t want it locked away for years with no access.
The traditional home for low risk investors. Except this time, the return on bonds is non existent. With central banks around the world pumping money into the bond market and the rate of borrowing at all time lows, there is no return on bonds at present. In fact, buying into the safer bonds such ones issued by the German government may actually result in you getting back less than you put in.
Don’t be fooled that all bonds are safe and low risk, they are not. In searching for a return, fund managers look at bonds being offered companies of governments with a lower risk rating. For example, when building of his Atlantic City casinos, Donald Trump financed them by issuing bonds. If you were to give Trump money, you would charge a higher interest rate as there is a higher risk that you won’t get your money back. If you gave it to the US government, you know you will get it back, so the rate there are charged is lower.
When the return on safe money is non existent, it is tempting to invest in bonds that invest in riskier assets to get a return but the problem is, most investors are not aware that they are exposed to this risk.
The only show in town at present but it is a huge leap for someone to go from keeping their money on deposit to investing in assets that have fallen 50% in value in the recent past (they did come back). While there is lots of coverage of how well the likes of Amazon, Facebook, Apple etc are doing, they are just the select few, biggest companies. The MSCI World Index is made up of 1,600 companies and not all of them are doing well.
If you are looking to take the leap from deposits to equities, consider investing just some of money or spread out the investment over a number of months (called dollar cost averaging).
We have written about structured products before and warn all our clients against investing in them. The people who manufacture these products are well aware that deposit holders are looking for some return so they are busy making up very complex products that are sold as low risk, with capital guarantees but with an upside that it full of conditions to be met before you get anything more than your money back. They are marketed in a “can’t lose” manner but all the ways you can lose are listed in the small print. Ordinary investors will have no way of understanding how these things work. And if you don’t understand, don’t invest.
If you are looking for a return on your money, remember that risk and return are related. The higher the expected return, the higher the ups and downs you can experience over the short term. You need to decide how much ups and downs you want along the way.
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02 November 2020