July 28, 2023

Understanding cash and its role in your financial plan

High street banks and building societies are slowly increasing the interest rates available on their savings accounts. Whilst these can look like a good way of contributing to your financial goals, holding too much of your savings in cash can have a very negative impact on your overall return.

Here are four considerations you will need to take in to account...

1) Mind the gap - holding cash will erode the value of your savings

A key part of any financial plan is to consider how you can protect your hard-earned savings from the ravages of inflation.

With the Bank of England (BoE) raising interest rates to 5% in July 2023, savers should be seeing greater returns from their cash. However, many banks and building societies, while quick to raise mortgage rates, have yet to meaningfully up their interest rates on products such as cash ISAs.

As a result of this inaction and inflation remaining high, savers are realising a loss of more than 5% due to the gap between saving rates and inflation.

2) Stock markets tend to rally after high inflation

Markets can turn quickly and being out of the market for even a short period of time can significantly reduce your returns.

Interest rates and inflation are currently higher than they have been for some time. However, history shows that after about 18-24 months, interest rates will usually dampen inflation, and both will start to drop.

History has shown that when this happens, stocks and shares typically begin to rise. Markets can turn quickly and missing the best days can significantly reduce your overall returns. Remaining invested, if you can, will maximise your chance of benefiting from this potential future increase.

The chart below shows that staying invested in global equities over the past 30 years, could have delivered a potential return more than four times greater than that of an investor who missed the best 25 days during the same period...

3) Part of the Plan - cash is often already included in a diversified investment portfolio

If you choose to work with Willow Tree Financial Services, we will have some cash exposure in your diversified portfolio (depending on your appetite for risk). There will typically be a higher allocation to cash in lower-risk portfolios.

When investing in cash, portfolio managers will usually invest in money market funds, which have the benefit of being managed by a financial adviser like us. This approach also gives flexibility to move out of cash and into other assets quickly if market conditions changes.

4) Beware of the taxman

If you are investing outside of a cash ISA, interest earned on banks and building society savings accounts are subject to tax. Those with wages, pension, or other income above £17,570 will only have the Personal Savings Allowance (PSA) available to help them before they start paying tax on the interest they receive. The PSA is £1,000 for a basic rate taxpayer, £500 for higher rate taxpayers, and £0 for additional rate taxpayers. Anything earned above the PSA will be taxed at your marginal rate.

Before making any decisions, we recommend you speak to a financial adviser and get some expert advice. We will be able to assess your appetite for risk and discuss whether your investments remain appropriate for you, so you can feel confident about your financial plans.

Please get in touch to book an appointment.

Appointments are either virtual, or in our offices located in Polegate, East Sussex.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Tax treatment varies according to individual circumstances and is subject to change.

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