Moving your money out of savings may seem tempting in a low interest rate environment, but can you invest without putting your nest egg at risk?
Eight years of rock bottom interest rates and now inflation is on the rise. It’s a nasty combination that will leave many savers despairing. With the Bank of England showing no signs of raising interest rates, you may be considering turning to the stock market to achieve any real growth, but is there a way to invest without risking your nest egg?
“The short answer is no,” says Nersen Pillay, an Investment Director at Royal London Asset Management. “If you invest in the stock market there is always a chance poor performance could result in you losing your money.”
But leaving your money in a savings account isn’t completely risk-free either. While you may have a government guarantee your money won’t be lost, it could still be shrinking.
“Money sat in a savings account with a poor interest rate is losing purchasing power in the long term as it is lagging behind inflation,” says Nersen. “Your bank balance may not be falling, but the value of that money is.”
A recent study by Royal London found that £1,000 put into a deposit account a decade ago would be worth less than £900 in today’s money. In contrast, £1,000 put into a simple multi-asset fund with a mixture of bonds and equities would be worth over £1,500 today.
With the average interest rate on a savings account sitting at 0.37% (at the time of writing in April 2017), according to MoneyFacts, you don’t have to pour your money into high-risk investments in order to get a decent return. Just moving your money into relatively safe assets such as government or corporate bonds can improve growth.
For example, 10-year treasury gilts – widely considered one of the safest investments because the UK government would have to default for you to lose your money – were yielding 1.06% at the time of writing. That’s better than the return on savings accounts, but there is still a risk that your investments could lose ground against inflation.
Move up the risk ladder slightly more and the FTSE 100 rose by 20% over the 12 month period leading up to April 2017. Undoubtedly, the stock market offers tempting returns, but it comes with a risk. So, how can you keep your risk to a minimum but still beat the pitiful returns offered on cash savings?
The first thing to consider is the time frame over which you are saving. If you are going to need your money within three years, then the stock market isn’t the best place for it as market volatility means your money is unlikely to have enough time to regain any initial drops in value. If you’re wanting a long-term home for your money then the stock market is likely to outperform cash, so your next consideration is how to reduce your risk.
“The key to minimising your risk is diversification,” says Nersen. Put your eggs into a lot of different baskets then if one gets dropped you don’t lose everything. The more you spread your money across asset classes and geographic regions the less risk you face of one market shock wiping out your savings.
You can diversify your own portfolio by carefully picking stocks and investments that cover a broad range of assets, such as stocks, bonds, and gilts and several regions. But, a simpler option may be to invest in a multi-asset fund, which will diversify your investments for you.
Regular portfolio check ups will also help you with the next step to managing your risk. All investments perform differently, so while you may start out with your money evenly split over five different assets, performance will gradually skew that split. That means you need to regularly rebalance your portfolio so you don’t end up overexposed to one investment. Invest in multi-asset funds and that rebalancing will be done by the fund manager.
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