They do say that history repeats itself, and the challenging world of savings is certainly no exception. We compare what was going on last September in order to see whether the landscape has changed and how this may impact on your savings options.
A year passes quickly
As any of you who have taken a holiday this summer will know, time really does fly, as has the last 12 months in the world of savings. But the prolonged uncertainty around interest rates and inflation continues to create an extremely difficult environment for savers.
Unfortunately when reviewing these important factors, one can start to feel a sense of déjà vu since it appears to have been the same old story of economic uncertainty for longer than any of us would have liked. Perhaps more worrying, and certainly more important in understanding the impact on our savings, is that these tumultuous economic conditions look set to stay for quite some time to come.
Around 12 months ago I was bemoaning yet another interest rate freeze (at the time this was the 30th month in succession). A year later we are still at the record low interest rate of 0.5% which has now been held since March 2009.
No one has felt the impact of this more than the fixed rate saver, with yields available also seeing record lows, especially on the longer terms. Peace of mind along with a competitive deal would appear to have gone off the radar.
As to the timing of a likely increase, I was also concerned this time last year since although the previous month a potential increase had been on the cards for 2012, economic consensus was now suggesting that this would be highly unlikely until 2013.
Interest rate rise any time soon?
In short, no. The ongoing eurozone crisis has really started to have a pronounced impact on global economic affairs and in the last few weeks, dates as far away as 2020 have been suggested as the earliest we might see a potential increase. You can start to see why longer terms fixed rates are not looking very appealing.
Certainly 2015 would find a chorus of agreement from economic commentators as a conservative estimate for the earliest date for the Bank to take action, but even more worrying for our short term money is that an interest rate decrease has not only been discussed as a real possibility, but rather the preferred option to further quatitative easing, based on Monitary Policy Committee member Martin Weale’s comments last week. This clearly has implications for every saver.
This time last year, inflation as measured by the Consumer Price Index had risen to 4.5% whilst the Retail Price Index stood at a worryingly high 5.2%. At the time, the Bank of England assured us that it expected inflation to return to its target of 2% in the next 2 years – so, 12 months to go….
Fortunately these headline rates have improved, with the latest data from the Office of National Statistics revealing the current Indexes are 2.6% and 3.2% respectively, a healthy reduction when compared to the highs of just a year ago. Although both of these rates are an increase on the previous month, which was unexpected by the Bank of England, this trend is not expected to continue in the short term.
The important points to remember here are that the headline rates are based on the last 12 months, so they don’t help us to know what will happen in the next 12 months, and the Bank of England has a disastrous track record of helping us with their predictions. We therefore must understand that making a decision on what might happen in the future based on what has happened in the past must always come with a word of warning.
Fixing for 12 months or less is of course the least risky option, but for those considering longer terms, the possibility that inflation could rise, and the impact this will have on every hard earned penny of interest, needs to be understood now more than ever before.
As one moves into other areas which play a part in the overall savings conundrum, things are not much better. Not only is the UK experiencing its longest double dip recession for 50 years, the UK growth forecast was recently reduced again with little sign of exactly where growth is going to come from.
Although the subject of further quantitative easing will continue to be discussed, there are no signs that this has promoted growth in the real economy and, as I have written previously, could well be storing up problems for the future by creating economic inefficiencies and one of the major impacts this has is the risk of inflation.
Another important consideration is tax. Since the headline rate advertised is often the gross return, all but non-taxpayers have to deduct a minimum of 20% to find out how much they will receive in their pocket.
The impact of tax highlights the importance of using our ISA allowance in order to provide tax-free returns, regardless of our marginal rate of tax. The cumulative effect over time therefore allows us to protect a significant sum against the effects of taxation.
The only difference from 12 months ago is that we all have another ISA allowance available, and the value of maximising this becomes more and more important over time.
Although inflation has come down over the last 12 months, the need to assess all of the options open to us for our savings has never been more important. Notice accounts have become more popular, with some of the leading rates offering higher yields than those available on short term fixed rates.
On the fixed rate side there are a number of accounts offering between 3% and 3.5%, all of which tie you in for 1 year or less. However, the range of leading rates in the medium to longer term offers very little more, with anything close to 4% having become extremely rare.
Remember, if you do tie yourself in now and inflation goes up by only a small amount during your fixed term, your real return (i.e. the return after inflation and tax) could quickly evaporate – you must therefore take a view of what could happen before acting.
Finally, 12 months ago I also mentioned the rise of fixed rate bond alternatives which is an area that has continued to grow at a rapid pace and with current fixed rates offering nothing in the way of any upside for committing, you can see why these continue to be a viable option.
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No news, feature article or comment should be seen as a personal recommendation to invest. Prior to making any decision to invest, you should ensure that you are familiar with the risks associated with a particular plan. If you are at all unsure of the suitability of a particular product, both in respect of its objectives and its risk profile, you should seek professional advice.
The tax efficiency of ISAs is based on current tax law and there is no guaratnee that tax rules will stay the same in the future.
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