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Fives years of 0.5%: What’s the solution for savers?

Holly Thomas
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Holly Thomas

Savers are suffering the damaging effects of five years of ultra low interest rates that have eroded the real value of their cash by 10%.

This week marks the fifth anniversary of UK base rates being held at 0.5%, unchanged since 5 March 2009 following the global financial crisis of 2008.

While the dash for cash is understandable in turbulent times, cautious savers keeping their money in deposit savings accounts have seen returns plummet below the rate of inflation.

Savers often think of cash as a safe haven but due to inflation, £10,000 put away in savings five years ago, is now worth £8,960 in real terms.

Putting money into the stock market would have netted far better returns.

Over the last five years, UK equities would have provided investors with a whopping return of 99.4%, turning £10,000 into £19,940, according to analysis by M&G Investments.

Global equities returned 69% followed by a 53.6% return from UK corporate bonds and 20.5% commercial property.

Steven Andrew, manager of the M&G Episode Income fund, said: “All major asset classes have provided a positive return over the past five years.

“However, once you strip out tax and the impact of inflation cash gives a negative return of -10.4%. Crucially, this means that savers who kept their money in savings accounts such as some offered on the high street, will be feeling the pinch a bit more than others as the true purchasing power of their money has been completely eroded.”

Even at today’s slightly reduced inflation rate of 1.9%, a basic rate taxpayer needs to find a savings account paying 2.38% per annum to keep pace with inflation, while a higher rate taxpayer at 40% needs to find an account paying at least 3.17%. Most savings accounts pay less than this so the majority of savers are losing money in real terms.

The Bank of England Governor Mark Carney recently stated that the base rate may continue to stay low for some time to come. Even when rates rise, experts do not expect banks and building societies to start boosting rates.

Susan Hannums, director at Savingschampion.co.uk, a savings website, said: “There have been record numbers of savings rate cuts this year, and it will take a substantial rise in the base rate before they are back to a decent level.

“It is unlikely that providers will increase rates by the full base rate movement, so things could remain bleak.”

Savers will continue to miss out on inflation-beating returns unless they switch to another savings vehicle.

Where should cash savers should put their money?

For inherently cautious savers, the risk of volatility in equities will be an unwelcome side-effect. But this is the very nature of stock market investing.

Diversification across different markets and asset classes will enable your savings to adapt to different markets, and crucially, reduce exposure to one individual area. Strategies of long-term investing and regular saving will help smooth out any bumpy rides.

Regular saving each month means investors drip-feed money into the market – through a fund. This smooths out the highs and lows in share prices so you buy fewer shares when prices are high and more when prices are low.

Andrew said: “Investors should look at all major asset classes to provide a mix of growth and protection of capital as well as a regular and growing income. A diversified portfolio with flexible asset allocation will ensure you are invested in the right blend of assets at the right time regardless of fluctuating Bank of England base rates.”

Patrick Connolly at Chase de Vere, the adviser, said: “Income-starved investors in particular should consider equity income funds, where they can generate returns above the rate of inflation with also the potential for capital growth.”

Shares in companies that pay steady dividends tend to be less volatile and often not as exciting as those with the potential for high and fast growth. The power of dividends should not be underestimated. Reinvest the dividends and the power of compounding means you can save less for longer and still be better off than saving a lot in a short time.