According to HMRC statistics, at the end of the 2016/17 financial year, Britons had a total of £585bn saved across adult ISAs. However, of this figure, a huge 46% was saved in Cash ISAs, despite the abysmal interest rates of around 1% offered by these products. That’s a worrying statistic, in my view.
I’ve said it before, and I’ll say it again, cash is a lousy long-term investment. Sure, it is useful when saving for short-term goals, but when it comes to saving for retirement and generating wealth over the long term, cash won’t get you very far at all. In fact, if you hold money in cash over the long term, your wealth is likely to actually go backwards.
Inflation: the silent wealth destroyer
When saving for retirement, it’s important to consider the impact that inflation will have on your savings over the long term.
Inflation refers to the general increase in prices over time. Often, it tends to run at around 2% to 3% per year, although the Bank of England has a target rate of 2%. Currently, the rate of inflation is 2.4%, meaning that the price of goods and services is 2.4% higher than it was a year ago. Yes, you already know that but it’s worth repeating and thinking about. While not noticeable on an everyday basis, inflation of just 2% to 3% can have a large, negative impact on your wealth over time, because it reduces your spending power in the future.
For example, let’s say you have £10,000 saved and want to go shopping today to buy a new TV, new furniture, a new computer and some new clothes. With £10,000 saved, your spending power is, you guessed it, £10,000. However, if you let that money sit in a bank account earning no interest for 10 years, and inflation is 2% per year, at the end of the decade, your spending power will be reduced to around £8,170 in today’s money. In other words, you’ll be able to afford almost 20% less stuff, simply because inflation eroded your purchasing power.
This example illustrates why cash is such a lousy long-term investment, and why it’s so important to have your money working for you, and growing at a rate above inflation. To combat inflation, invest in growth assets.
A superior ISA
If you want to grow your wealth at a rate above inflation, consider a Stocks & Shares ISA over a Cash ISA, as it’s a far superior investment vehicle. It has the same main advantage in that its a tax-free account, yet unlike a Cash version, it lets you invest in a range of growth assets, such as shares, funds and ETFs.
For example, through a Stocks & Shares ISA you could invest in a FTSE 100 tracker. Over the last three years, FTSE 100 trackers have returned around 25%, although past performance is no guarantee of future performance. You could also invest in a top mutual fund such as Nick Train’s Global Equity fund, which has returned around 80% over the last three years. Or perhaps you could look at investing in a portfolio of individual shares yourself?
Either way, the chances are, over the long-term, growth assets will outperform cash, and are likely to protect your wealth from inflation. Ultimately, investing in growth assets could help you retire earlier.