The official rate of inflation hit a two year high of 4.40 per cent in February with the expectations that inflation will remain between four and five per cent in 2011, presenting a major hurdle if you are looking to supplement your income with your investments.

Looking for inflation-beating savings has been an increasingly difficult task, but there are some competitive products available, including alternative cash ISA options.

The inflation impact

Retirement income specialists MGM Advantage estimate that a household with annual expenditure of £35,363 now needs to spend £1,496 more to maintain the standard of living from a year ago. For households where the main occupant is aged 65–74, the company estimates that £934 more is needed to keep up the same lifestyle compared to a year ago.

Sales and marketing director at MGM Advantage, Aston Goodey, said: “The price of goods is rising at an alarming rate and coupled with the fact that people are living much longer, means many people in retirement are finding it more difficult to survive financially.”

The director general of Saga, which provides services and products for the over 50s, Dr Ros Altman has been critical of the government’s failure to do more for pensioners suffering from the impact of high inflation and the historically low official interest rate, which has been 0.50 per cent for two years.

“Savers are being punished, borrowers are benefitting, but we will all lose in the end:  As savers’ spending power is being eroded, they will cut back on their consumption, which will hurt everyone.  Those who are over-borrowed will need to pay back debt, rather than keep spending, so if we keep causing problems for savers, growth will suffer and we will all lose,” she said recently.

Fixed Rate Cash Income options

A five year fixed-rate deposit account from Scottish Widows Bank currently offers 4.50 per cent interest for minimum deposits of £10,000. This is a long term deposit account that will pay 4.50 per cent (gross/AER) annually, 4.43 per cent (gross) quarterly or 4.41 per cent (gross) monthly. It is one of the only accounts around at the moment that exceeds the current rate of inflation.

Interest rates will rise at some point from the 0.50 per cent level, and that will have an affect on the rates offered by savings accounts, but there is considerable uncertainty over when that might be.

Others, such as the independent government spending watchdog, the Office for Budget Responsibility (OBR), believe the rate of inflation will fall into 2012.

Cash ISA income options

Some of the conventional fixed-rate cash ISAs – where returns are free from income tax – that have come onto the market for the end of the tax year are offering three per cent interest and above. For example, NatWest’s 3 Year Fixed Rate Cash ISA offers 3.70 per cent (gross/AER) annual interest on deposits of £1,000 upwards.

Other cash ISA options include structured deposits, which offer similar capital protection to deposit accounts but generally have returns that are not guaranteed. Structured deposit plans offer competitive returns but in most cases these returns are dependent on the performance of a related index, such as the FTSE 100.

The Investec FTSE 100 5 Year Deposit Plan, available as a cash ISA, offers a potential return of 35 per cent over the five year term of the plan. The return is dependent on the performance of the FTSE 100 and the ability of the deposit taker – Investec Bank in this case – to repay investors.

The capital invested is protected, also dependent on the ability of the deposit taker to repay the money held, and the plan is eligible for the Financial Services Compensation Scheme (FSCS) deposit protection scheme, covering individual savers in the event of an institution defaulting to the limit of £85,000 per person, per institution.

Income investments

If you are happy to accept some risk to the capital invested, there a various income investment options available.

Structured investments offer the potential for defined levels of return based on the performance of the FTSE 100. For example, the Royal Bank of Scotland (RBS) UK Fixed Income Plan 1 is a five year structured investment that offers 6.25 per cent annual income dependent on the performance of the FTSE 100 Index and RBS to repay your money.

Investment funds

Funds that aim to provide investors with a level of income are funds investing in government and corporate bonds, and funds investing in equities (stocks and shares); some funds will invest in both types of asset.

There is a wide range of options to choose from, with some funds providing the opportunity for income and capital growth. Funds that have proved popular with ISA investors in the run-up to the end of the tax year are multi-manager funds: the Jupiter Merlin Income Portfolio and the Henderson Multi-Manager Income and Growth Fund.

Both funds invest in shares, and corporate and government bonds, via a selection of other investment funds and have quarterly yield distribution dates.

Another popular fund that invests directly in both bonds and equities is the Invesco Perpetual Monthly Income Plus Fund, which aims to provide an income and some capital growth by investing in high yielding corporate and government bonds and UK-listed company equities.

No news, feature article or comment should be seen as a personal recommendation to invest.

In relation to structured investments and investment funds, both the value of investments and income from them can fall as well as rise and you may not get back the full amount invested.
 
Prior to making any decision to invest, you should ensure that you are familiar with the risks associated with a particular investment. If you are in any doubt as to the suitability of a particular investment, both in respect of its objectives and its risk profile, you should seek independent financial advice.

© Fair Investment Company Ltd