3 Jun 2013, 11:21am
personal finance
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  • What’s all this Investing lark all about and how does it differ from Saving?

    Seems there’s lots of confusion over saving and investing. They’re related, but they aren’t the same. Say you have £10,000. There are three classes of things you can do with this.

    • You can spend it – on yachts, or on charity, or Jimmy Choos or paying off your debts, or buying a few more bricks in your wall, otherwise known as paying down your mortgage 1
    • You can save it, in bank notes under your bed, or in National Savings ILSCS if they’re available, or a bank deposit account.
    • You can invest it – in financial instruments like equities and bonds, or in yourself by training to earn more money, or in your small business buying capital plant or services so you can make more money.

    Everybody knows how to spend money, so I won’t bother with describing how you go about that. Where there seems to be serious confusion, however, is between investing and saving.

    Saving

    You usually save for a defined short-term goal (within the next five years, say). Monevator gives you the lowdown on why you don’t do that under your bed. You know you are saving when you consider there to be a vanishingly small chance of you getting fewer pounds out when you come back for you money than when you left it there.

    Say you want a new TV, or a car. You save for that. You know roughly how much a TV is, you put a few pounds by and when you have enough you go get it. Unlike the 99% who do their shopping early in life, you aren’t screwed. You don’t even need a credit card, though there are good consumer protections reasons why you might want to buy the TV with a credit card even if you do have the money saved.  Either way you get your TV when you want in the way you want and under your own terms.

    It’s not just Stuff you save for. Some people who decide that the school system isn’t up to scratch for Their Darlings save to pay school fees of about £20,000 a child. Some people save for a round the world trip when they retire, or save towards a house deposit. Things you save for you generally –

    • know what your target is to a fair accuracy
    • You save the total amount – ie when you have acquired the goods or services in due course you don’t expect to have any of the associated savings left. You can, of course, save for more than one thing at a time 😉

    Just to confuse things, you also save towards the unexpected and the uncertainties of life. The ermine has an Emergency Fund, scattered across a full allocation of NS&I ILSCs and a couple of Cash ISAs. I haven’t saved this for a particular purpose, and when NS&I tell me the ILSC has come to maturity I leave them be and let them roll it over. Unlike the cash ISA, which like radioactive waste loses its value with a half-life of about ten years these days, the ILSC’s hold their value in real terms. That’s nice in an emergency fund, because emergencies don’t usually get cheaper with time. People who know more than I do say that in the long run cash actually offers a real return ahead of inflation. I’m buggered if that’s been my experience other than the ILSCs.

    Confusingly when people say they are saving for retirement they are usually investing for retirement 😉 So what is that investing lark all about then?

    Investing

    Investing is where you buy an asset that you expect to hold its value and provide you an income or save you money, or you expect it to appreciate in value at a higher rate than inflation. The conundrum with investing is that in some cases the asset is in a marketplace where sentiment ebbs and flows to a shocking extent. In nearly all cases with investing there is some risk that things won’t turn out as you expected. Your stocks may tank, the company may go bust, your small business may not get that order for which you bought all the gear, you may flunk your exams or find the price of the university course was more than your will get from the degree premium because everybody can get a degree nowadays.

    There’s nearly always a judgement call associated with investing, which isn’t there when you are saving. Provided you save less than £85,000 with any one institution you are fairly guaranteed to get your money back unless this sort of thing happens

    You're probably SOL on getting your money back if zombies invade

    You’re probably SOL on getting your money back if zombies invade

    If zombies are on the loose then you may not get your savings back. In most other cases you will…

    Investing is hard to define, but you tend to know it when you see it –

    • there’s an element of risk, often of total losses. Stock market investing is relatively benign there – total losses can happen but aren’t that common!
    • once you have invested, the value of your investment will be volatile
    • some investments are one-way only. Education, both university and those school fees spring to mind. You may not get a 2:1 or the child may be genuinely dim-witted, negating the value of your education investment. The gear you get to fulfil the order may not have more than scrap value if the order doesn’t get placed.
    • You need to save much more than the annual income you derive from the investment portfolio – typically 20 times. The return for that stupendous over-saving is you can sit on your backside and not go to work for the income 😉

    So why on earth do people invest, then. Are they out of their heads?

    It’s because studies show that if everything goes right a well-diversified investment portfolio beats cash in the log run. You look at the graph in this and go “holy crap, I’m putting my money with the hare and not the tortoise”

    There are quite a few ifs in that previous paragraph. Most people have to screw up a bit before they learn the essentials of investing. I’d go as far as to say if you are diversified enough it doesn’t matter that much what you invest in, as long as you don’t fiddle and churn. Diversification also applies in time. Most people  enter the stock market over decades as they save into their pension for retirement, but come out of the market all of a sudden when they buy an annuity. They could use some temporal diversification, perhaps shifting a percentage of their equity portfolio into cash savings over the last five years before retirement, to head off being slaughtered in a stock market crash just before they retire.

    When should you invest, and when to save?

    Save if your time horizon is short

    If your need is within five years, then save. Unless you’re comfortable with the risk of losing half your savings at the end in a stock market crash because you think the chance of having more is worth it. Most people hate losses more than they like gains, so this is a bad move for humans.

    save if your target is low

    If your goal is less than about £10,000 even if it’s 20 years off there’s a case for saving, too. There’s a value in certainty. Yes with investment the rate of appreciation has historically been greater, which means you need to save less to reach your goal. There’s not enough difference between saving £500 a year and saving £300 a year to my mind to make taking the rollercoaster ride of investment worthwhile, plus there are fixed costs associated with investing which eat into your potential gains at the low end. There is a shedload of learning you have to do for investing too, because if you don’t understand the volatility you risk being panicked out of the market at the low-water mark. That is the time to lean in, not run out 😉

    invest if you have a long-term sizable goal

    If your sizable need is twenty years off, then you should consider investing. Children’s university fees would be a candidate if you start when they are born. The total amount is about £50,000 at the time of writing – as a parent you do not have to save up the opportunity cost part 2.

    Two things make this a better candidate for investing. The total amount is worthwhile, and for most people the difference between saving £2,000 a year in a cash ISA and saving £1600 a year in a S&S ISA would make a material difference to their standard of living. I used a real rate of return of about 4% for the S&S ISA and 2% real for cash to come up with those figures. People tell me you can get a 1-2% real rate of return on cash for the long term. If I were saving for this I would personally assign a 0% rate of return on cash, which favours the investing route even more.

    The other advantage of university saving is that the volatility is more acceptable due to the spread out nature of the expense. Say your child is coming up to 13, whereupon you switch from investing in a S&S ISA at £1600 a year to saving (at the higher £2000 p.a. rate) in  a cash ISA. The rationale behind the switch is the volatility of the stock market is such that you need to be in it for more than 5 years to have a good chance of breaking even. Your child will enter university in five years from now, because they go to university at 18. So you are guaranteed have £10,000 cash towards it, even if the stocks fall. Say your stock market investments turn out to be effectively worth £33,661 3. The stock market then has a hissy fit just before your child goes to university and halves the value of your S&S ISA to £15000.

    £25,000 is still enough to make a major dent in your child’s university costs. Plus if you have done your homework, you will observe that you may as well stay in the market – the cash will address the first year of fees. Say your child entered university in Jan 2009 4, which was the most recent low-water mark for the FTSE all-share. That loss would have softened by the next year. University fees are incurred over three years, so they are a good match for a mixed investing/savings approach.

    If the market crash happens earlier, as is likely at least once in the first 13 years then your investment buys more stocks, and is a cause for celebration, not gloom 😉

    invest for retirement

    Retirement is always a candidate for investing. You can expect to be retired for at least as long as you are at work, so unless you can consistently and steadily save half your pay you need the extra that investing can give you. Plus your retirement costs are incurred over a long period of time if you use drawdown, though many people buy an annuity which is a fixed one-off purchase which is a bad match for the characteristics of investing.

    Unfortunately you need to understand why you choose investing over saving. The risk and volatility of investing is gut-wrenching at the beginning, because you are poorly diversified in time and in stocks if you buy individual shares, and still poorly diversified in time if you buy index-trackers as people say you should (the index-trackers take care of equity diversification right off the bat).

    Most people should save first, then invest

    Investing is an old man’s game for your average Brit IMO. In the first part of your working life, money is particularly tight, and the only investment people make is with their pension if any, and their house in some cases, assuming they actually repay the mortgage 5.  Because of these two implicit investments, most people get along fine by ignoring investing, and sticking with saving until middle age.

    If you want to retire early, however, you have to engage with investment. One tough issue with investment is you can only invest ~11k p.a in a tax-sheltered ISA which buys you about £500 worth of tax-free income each year, so it takes an individual about 10 years to buy £5000 worth of tax-free income. You can do a little bit better than that because you compound the income in the accumulation stage, but it’s still seriously rate-limited. You can invest outside an ISA, and for basic rate taxpayers the issues of non-sheltering aren’t apparent in the early stages.

    You have to invest a lot of money to make investing worthwhile

    I’m going to stick my neck out and say investing needs at least £20,000 to make it worthwhile. Before you start, you must not owe any money, other than perhaps a mortgage. No ifs, no buts 6. You don’t have to find that all at once, indeed investing a lump like that all in one go has hazards of its own.

    What I mean is that when you’ve stopped contributing, the total invested should be £20,000 or more in today’s real terms, even if it your plan takes you 20 years to get there.  All too often on Moneysaving Expert forums I see people say I want to invest £500, or even £5000. It’s not going to shift the needle on the dial, and if you can’t find more, there’s a case to be made that the volatility in the stock market is going to deprive you of sleep at times. Save it, and chase the best interest rate you can get. Often that is to be had by paying down loans 😉 As I said earlier, before you even think about investing, clear your debts.

    Sorry. Investing is not for the poor. Widows and orphans should probably stick with saving, and it works better for them because they don’t pay tax on their savings interest, though that is cold comfort at the paltry savings rates on offer at the moment.

    Why do I say you need at least £20,000? Because there is a long, steep and harsh learning curve associated with investing, it needs you to both understand the principles and also to address the enemy within, which easily takes fright at the rollercoaster ride of the fluctuating capital value. Get this wrong and you will lose money and sleep. Some of that 20k will be invested in yourself, in learning what not to do 😉

    Invest like you are never going to spend the capital

    Unless you’re saving for a defined expense like those university fees, aim to spend the income from your investments, not the capital. It’s terribly hard to get a stable handle on the real value of invested capital. If you don’t know the real value of what you have, how can you determine how much of it you can spend without running it down?

    This is the issue that people who keep a chart of their net worth fall into – if a lot of your net worth is in investments then there’s a lot of noise on that signal due to market sentiment. It’s irrelevant, high-roller. In Quicken, I represent my ISA capital as the inflation-adjusted amount of money I have put into the account. When I look at TD Investing’s listing of my ISA it’s a lot higher. All that is telling me is that the world has gone a litttle bit mad and is irrationally exuberant about equity valuation. It won’t last. I’m not going to spend that money. I focus on the income from it, which I can spend (and is usually about 4-5% of the amount I’ve put in).

    Unfortunately you still have to engage with and understand the investing process. Most of the issues with investing you try and get right when you buy, then the less you do the better. However, over long periods things like rebalancing are relevant to keeping things on track.

    It’s Not Fair

    Life isn’t fair, and the Cosmopolitan myth that you can Have It All is toxic. Having one thing usually means foregoing something else. Investing isn’t right for many people. Note that this isn’t purely an issue of what you earn. I earned over the national average wage, but not stupendously more. What I didn’t do was spend as much as most. I have had fewer holidays over my working life than most people. I’ve never been to Ibiza or seen a Spanish beach 7.

    This weekend a couple I worked with jetted off to go on a jaunt in Eastern Europe culminating in a road trip to Venice. I’ve dead chuffed for them, and I think it’s fantastic. But on the other hand he gets to spend forty four weeks of the year in the office, and when the boss says jump, he has to jump, and he has to pay homage to The Performance Management System, whereas I don’t have either problem any more. His choice is right for him, and mine is right for me.

    So if you can’t find that 20k over 20 years, you probably get to spend more over those twenty years, and if that’s what matters to you then great. There’s nothing that great about investing – other than when you sign off your job at the end of the term, you clock out for good.

    Know thyself

    Investing, or saving? Know the difference – it matters. The siren song of Investing can come dear, particularly if your goal or your temperament is more suited to Saving. If you have any debts or you spend more than 80% of your take-home pay Investing is probably not for you. Emergencies, such as being made redundant, tend to happen more when the economy is bad and the stock market is down, and if you are spending a high proportion of your take-home pay you may not have enough buffer to avoid having to liquidate your investments into a down market. In which case you’d usually have been better off saving.

    Many people are drawn to investing by the pound signs on the upside. They need to look at the sharks and the piranhas circling under the water as well as the tropical island and the yachts above the waterline. It’s that evil combination of increased probablity of personally experiencing economic  hard times with stock market lows that makes investing hazardous for people of working age if they can get their hands on what they’ve invested. This is the rationale for tax-favoured pension investment, where you can’t get your sweaty mitts on the money until you are 55. The Government incites you to invest in pensions with the tax benefit, and then denies you the opportunity to get your hands on the loot during your working life. It’s for your own good 😉

    Notes:

    1. some people might regard this as investment; I did when I was doing it.
    2. there are strong arguments to be made that a gift of 50k will make more difference to your child’s future as a deposit for a house rather than paying university fees up front, but that’s not the point of this discussion
    3. I used this compound interest calculator to simulate the real return on adding £1600 per year till the child is 13, compounding at 4%, stopping contributions for five years but still compounding at 4%
    4. I know children enter university in October. For this hypothetical example I’m using the most pessimistic point in the FTAS index, which happened in January
    5. BTLers are a different case where repaying the mortgage comes at the expense of expanding the estate. Presumably if you are a halfway competent BTL landlord, you retain your mortgages and expand your estate. Paying your mortgage off is for the little people like me who are buying the house they live in
    6. in years to come, erstwhile students on the new-style ‘graduate tax’ version of student loans will be an exception to this, particularly if their investing is done in a pension
    7. I hate hot weather, beaches and sun, so it’s no great hardship 😉

    Another excellent article. Nothing ground-breaking but re-iterating alot of the points previously made.

    Personally that 20k minimum investment amounts sounds too high. Obviously 20k to one person is going to be worth alot more than 20k to another person as it’s all relative to what they currently have. Shouldnt the ‘minimum’ investment amount be calculated from the fees incurred to give a figure that isnt stung too hard by a £2pm platform charge etc?

    Unfortunately im stuck in the savings camp as will be needing a house deposit lump sum within the next 5 years, however after that will be switching to investment once max allowed mortgage overpayments and emergency fund buildup have been met.

    @Reue I did wonder about that estimate, because I didn’t intend to be downbeat on people starting small. Note it is also your target for total contributions, I hope nobody takes that as you have to find 20k all in one year or even decade!

    The hazards as I see it are not so much the fixed costs of investing, but that if you invest small amounts because you are limited by disposable income, the danger is that you may not have a big enough emergency fund, and therefore be flushed out of your investments at a low water mark.

    It was a generalisation. People who have done their research and who accept the hazards, and who have hopefully savings as well before investments can do well with lower amounts, particularly at the start.

    One day I will try and tackle the life-cycle savings and investments issue, because one’s requirements change greatly over a lifetime, and this isn’t called out enough in the PF world. As you illustrate yourself 😉 At the moment savings are the way to go, first for a deposit and then for an emergency fund, and there’s nothing wrong in that. Investing now would be hazardous to your finacial health IMO, with the exception perhaps of some pension investment, particularly if there is an employer match on offer.

    I did exactly the same thing in 1989/90. It was 10 years on before I had significant shareholdings, and a lot of my investment then was in learning what not to do, I was hammered in the .com bust, thereby learning the value of sectoral diversification, and what a bubble looks like 😉

    A nicely balanced and reasoned argument, ermime. I suspect it’s only appreciated in hindsight.

    The corollary of ‘actually needing your investment only when the stock market is down’ is ‘only having sufficient confidence and funds to invest when the market is high’; employers are handing out bonuses, recruiters are ringing you and you don’t need it so why not invest it? 15% returns, silly to just bank it!

    It’s that sweet then sour taste that lingers on the palate for a few years that defined my investment in 2000 then 2007.

    Still, third times the charm… or is it enemy action ? I’ve punched my investment head so many times I can’t remember.

    One thing I’ve started to do, once I’ve saved enough to buy that Macbook, is depreciate it over 3 years. So I save £20 a month to replace the Macbook and I have £720 in 3 years plus the original Macbook to sell on ebay. Hello, brand new Macbook!

    @Nathan well spotted, I’d missed the euphoria side! But I sure did it in the late 1990s 😉
    I also remember how gut-wrenchingly awful it felt to buy into the market in early 2009; it felt like the whole world of finance was going to end. I really expected that to be written off rather than what it did, which was boost my pension AVCs by 20% more than I added in total over the next two years by the time I had to convert them to cash.
    @Jim I did exactly what you did for cars. I typically spent about £5000 on a secondhand car and kept them for at least 10 years, once I bought one I’d save about £500 a year towards the next one. It worked well for me because I ended up keeping them usually a bit over 10 years, and the second-hand value of cars seems to plummet with time. £5000 would be too much to spend today for what I want in a car.

    Computers seem to go the same way – if keeping your Macbook up to date is valuable to you then it’s the perfect way to do that!

    There is a nasty assumption going around these days that parents need to find £50k per child for their University education. They don’t.

    Whilst I question the validity of going to Uni for all but the most necessary cases (doctors etc.), the new student loans system is one of the few loans in life that works largely in favour of the person paying it.

    You don’t start paying until you earn £21k and it steps up so that you only pay a large amount if you earn loads. Taking the ‘I got mine for free’ emotion out of the debate, I think that this is probably the fairest way of funding a degree.

    And I am totally against just about any form of borrowing (Yorkshireman you see).

    If you think about paying the fees upfront for your little darlings then you are potentially losing thousands unnecessarily.

    So I won’t be paying for my kids’ fees, rather I would help them avoid Uni in the first place (which can be done if you bother to think creatively) or encourage them to get the full loans available.

    Then again we may move to somewhere with cheaper education!

    6 Jun 2013, 11:40am
    by Grumpy Old Paul

    reply

    @Ermine,
    An interesting,honest and well-balanced article embodying wisdom derived from “the slings and arrows of outrageous fortune”. It’s a shame that articles like this rarely appear in mainstream media.

    One area where I have a slightly different view is expenditure from investment. I do share your view that one shouldn’t be fooled by any temporary over-valuation of volatile investments. But I do plan to base my own future expenditure on the likely long term growth (including reinvested income)of a passive low-cost portfolio which may be inflation plus 5% based on statistics seen elsewhere.

    I’ll work on a conservative basis of 3% instead of 5%. Then, once fully retired, I will be quite happy to slowly run down my capital and so will be relaxed about withdrawing “real” capital if necessary. So I may choose to withdraw 5% per annum but I don’t care whether that comes from income or an increase in capital value.

    Whether my nerve will hold during a spell when the value of my portfolio falls by 20% and I still withdraw a further 5% is another matter. If my portfolio was worth 200K, I think (but don’t know!) that I’d be philosophical but if it was 50K, I’d be very jittery.

    There are counter-arguments such as income being less volatile and that the discipline of only withdrawing income reduces temptation during periods of irrational exuberance but I’m remain to be convinced.

    Some HYP fans (I don’t include you) have a quasi-religious devotion to their approach which, as a die-hard agnostic (is that an oxymoron?), makes me wary.

    Finally, as I find myself repeating, psychology plays a huge part in saving and investment and people do differ. Therefore, it is important to know your own quirks and sometimes that knowledge can only come from experience. Thus approaches to achieving the same goal may differ on quite valid grounds based on differences in personality traits.

    I like this article a lot, as usual, but I don’t actually agree with the premise.

    What you call saving I call “investing in cash”. I think cash is just another asset class (and a damn useful one at that, for many of the reasons you list here).

    I can’t help thinking this article mainly came into being because interest rates have been 2-3% and inflation about 2-3% (conspiracy theories aside) so real returns are negative.

    In 2006, I was getting a real return of easily 3% on cash, and sometimes more. (8% from regular savings? Don’t mind if I do! 😉 ). Admittedly that was at the other extreme though, and was fuelled by the sort of business suicide at the High Street banks that ultimately blew them up.

    You might still have said I was saving rather than investing, by your terms. Fair enough. But lots of the stuff about derisory returns from saving doesn’t hold in that environment, which I still contend is more normal *for individuals*.

    Institutions have been able to get 1% from bills as a real return in the UK over 100 years, but individuals can rate tart, put six figures (or more prudently five figures (i.e. £85,000 nowadays) into the best cash accounts then shift it, set up regular savings, and so on to get a much better rate.

    (By the way, people used to complain that regular savings didn’t work because you could only put a certain amount in each month, so the rest was earning 0%. This was ridiculous. What you did was do a monthly transfer, perhaps via your current account, from a high interest savings account. You could have at least a couple of regular savings accounts going at the same time).

    p.s. I mean “real returns are flat to negative”.

    p.p.s. Thanks as ever for the links. 🙂

    @JRA I agree totally – it is a tragedy that student loans are still called student loans, because it normalises the concept of large debt early in life. I do have sympathy for parents in feeling they have to fight that normalisation 🙁 MSE Martin makes the case against paying up-front too.

    I’m under the impression only the student has to move to take advantage of cheaper European education, an adventure thrown in for free too!

    @GOP I think you’ve nailed it on the portfolio size. I am more sanguine about variations when my portfolio is larger, whereas when it was only a year of ISA it felt worse for some reason. Although the headline variations are proprtional to capital base, the income is less volatile and actually useful now, though I reinvest it rather than use it at the moment.

    OTOH since I am only partially exposed to the stock market for pension income probably makes that easier for me anyway.

    I agree that the rational case would be to run down the capital, however the uncertainty in the end-date makes that difficult to factor. Plus I would hope Mrs Ermine to benefit from the income too if that’s how things pan out, so exhausitng the capital isn’t good from that POV.

    @Monevator, you’re right that I haven’t lived through any period where I’ve realised a real return on cash, so my loathing for the asset class comes from recent experience. You’ve had the experience, whereas I used to “invest” cash in my mortgage by paying the sucker down, instant guaranteed above inflation return from the nixed interest. I still hold on to my two half-year Cash ISA account in the hope cash will come good one day, but what with QE and all that a lot of the real value will have decayed by the time I can realise a real return on it.

    The liquidity of cash does make saving importantly different from investing IMO. Which is why I hold about 50% in cash, partly because the ISA contribution limits rate limit my investing but also because someone with no regular income needs a far higher cash buffer against those unexpected costs – I can’t chuck it on a credit card and pay it off from income, and I’d hate to be a forced market seller because the roof leaked or my boiler failed. So I hold cash for that reason too. Those ILSCs do exactly what I want for cash – I have no expectation of a real return on it, but it’s nice to have the real value preserved 😉

    I don’t get that regular savings issue either. The Nationwide is offering 5% on up to £2000 with their FlexDirect account but you have to transfer in £1000 per month, so I lobbed £3k in and shift £1k back and forth to my main account. It’s what online banking and standing orders were designed for 😉

    8 Jun 2013, 11:02am
    by Grumpy Old Paul

    reply

    @Ermine,
    Perhaps your notion of savings is really storing accumulated cash with no downside risk except for inflation. The repository for accumulated cash could be “under the mattress”, bank, building society, cash ISA, ILSCs. That seems consistent with the uses which you list for savings, namely, short-term goals, expenses to be incurred at a known date in the future, sudden unpredictable expenses such as a leaking roof, failed boiler or car repair.

    @Monevator,

    My recollection on returns on cash goes back to the mid 1980s when I first had excess income over expenditure. It has very rarely been possible to get real returns on cash over the last 30 years, especially after tax and especially for 40% tax payers. There have occasionally been “regular savings” schemes offering higher returns (rather like the Nationwide today), but those typically ran for one year, had a maximum of £250 per month, required you to have a current account and had a host of other restrictions listed in small print at the bottom of the advertisements! So unless you were prepared to jump through the hoops of opening multiple current accounts and linked regular savings accounts and set up all the associated standing orders, you’d be getting the high advertised rate on roughly £1500 since you start the year with £0 and end with £3000.

    In the 1980s, you used to get tax relief on the interest on the first £30,000 of your mortgage. Bear in mind in the early 1980s £30,000 would buy you a house and the deception started by Howe and continued ever since by reducing basic rate income tax and increasing National Insurance had just begun. (In 1978/79, VAT was 8%, NI was 6.5% and basic rate 33% but by 1985/6 VAT was 15%, NI was 9% and basic rate 30%). Tax-cutting Conservatives, my posterior!

    So you had to calculate whether the interest post tax relief was greater than you got from cash deposits and whether it was better to pay lump sums off your mortgage. Also, in the late 1980s, ILSCs paid RPI + 4%; in 1989/90 RPI ran at around 10% for a year or so!

    End of history lesson (and rant about NI) for youngsters.

    So I agree, with Ermine about returns on cash over the last 30 years. In the early 1970s, I’d guess it was even worse when RPI peaked at 26%. ILSCs have been excessively generous throughout their existence until very recently but, until the last few years, were not widely recognised as such.

    @GOP that’s exactly what I’d like in cash 😉 I’m consistently amazed that others have an expectation of anything else, and it still raises the hairs on the back of my neck when I hear someone is planning to spend the interest on cash as part of a retirement plan, because they’re scared of the stock market, in a ‘don’t you realise you are running the real value of your capital down’ sort of way.

    I’m glad it isn’t just me that can’t turn a real return on cash – I still suspect most people don’t have the ability to turn a real return on cash. Just holding its real value seems a good, sometimes achievable and honest thing to aim for 😉 You want more – well either go out and work for it or take a risk on other people and use your capital to enable them to work for it. In the end a real return is a cumulative claim on human effort and that’s got to come from somewhere…

    Hi Ermine,
    A first class article, well worthy of MSM.
    The link on note three is good.
    If you use it to see the advantage of sheltering you income in a tax have [legal] compared to paying tax on your Income in the UK as per PAYE.
    £25k pa over 25years = £393,651,963 @ 40% tax saved? by not paying tax to HMCR.
    Or at least paying it 25 years in arrears, in which case you would only have to pay £157,460,785 on your total 25 years income.
    Just shows what the mega-rich can do.

    Interesting comments guys, but even Elroy Dimson who I have met personally and who struck me as no tout-er of high returns has done the research and found that cash HAS realised a real positive return over most reasonable time frames of more than a few years — the issue is it is a derisolary small one.

    That’s even without special retail offers etc. This is data not anecdote (see Dimson’s Credit Suisse report). 🙂

    I was saving paperboy earnings in the 1980s so I concede the market may have been harder to rate tart then. Certainly less transparent!

    Regular savings, yes, it wasn’t the answer for a millionaire with masses to invest but as I said above scale wasn’t a drawback unless for some reason you kept the uninvested capital under a mattress! 🙂 The rest of your cash would carry on earning 5% or whatever. You got a blended higher rate.

    And absolutely you had to faff about moving money every year (or more likely every few months as different accounts rolled over…)

    A rentiers work is never done!

    8 Jun 2013, 3:11pm
    by Grumpy Old Paul

    reply

    @Monevator,
    I’ve just looked at Figure 10 in https://www.credit-suisse.com/investment_banking/doc/cs_global_investment_returns_yearbook.pdf .

    1. This research uses data based on 1900-2011 and therefore covers long periods of low inflation.

    2. It is based on the returns on Treasury Bills in 19 (I think) different countries.

    My somewhat hazy recollection is:

    a) Based on the UK
    b) Limited to the last 30-40 years
    c) Based on retail cash deposits not Treasury Bills
    d) Based on post-tax returns on retail cash deposits since most of that period predates cash ISAs and TESSAs

    I’m not in any way casting doubt on his rigour, research or statistics. But as my points above illustrate, he and I are using completely different datasets.

    http://www.swanlowpark.co.uk contains a history of UK interest rates and RPI but the interest rates are quoted gross and basic rate tax ranged between 33% and 25% from 1978/9 to 1995/6. From the late 1980s until 2003 I paid tax at 40%.

    Based on the these UK statistics, I weaken my case. (That’s the trouble with evidence-based
    debate!) Since 1972, it looks as if it was possible for a 40% rate tax payer to get a real return on cash in roughly 2 years out of 3.

    My recollection was therefore more pessimistic than the reality. From the mid-1980s onwards, I was comparing cash deposit rates with interest rates on mortgages and ILSCs: cash deposit interest rates usually were the lowest of the 3.

    Hi again Paul!

    Thanks for the extra data. If you look at page 55 of the Credit Suisse PDF you link to, you’ll see real returns for the UK over multiple periods, including 2000 to 2012.

    As I say, chasing the best rates was well worth it or even better returns last decade. See this article:

    http://monevator.com/the-best-cash-investment-rates-deliver-far-superior-returns/

    I know what you mean about evidence and memory! 🙂

    One of the good things about blogging has been that it has taught me how one’s brain likes to remember things to fit a narrative, if you let it. When you blog (or have a diary or similar) the evidence is preserved!

    16 Jun 2013, 9:25am
    by BeatTheSeasons

    reply

    If you’re talking about getting a real return on cash then presumably you mean maintaining the purchasing power of your capital.

    Sorry to state the obvious, but this is dependent on what you plan to buy.

    At the risk of provoking another face-punching from Monevator, I’d like to point out that official government figures are a weighted average of price increases.

    No conspiracy theories here – let’s just assume the ONS figures are all correct but look at what’s contained within them.

    Food costs are weighted at 12.1% whereas recreation, culture, restaurants and hotels add up to 28.6% of the average person’s spend.

    I’d wager that most early retirees or early retirement wanabees are spending a lot more than 12.1% of their money on food, and a lot less than the average on luxuries.

    With an increasing world population, diminishing resources, unpredictable weather and a weakened pound, might we see the prices of imported essentials like food and fuel rising faster than average inflation?

    If so, no amount of academic studies are going to help with the real fact of the prices of what you actually need to buy rising faster than the interest rate you get on cash.

    And that’s before you even consider the deliberate policy of suppressing interest rates through financial repression, which means cash is almost certain to lose value over the next few years, whatever has happened in the past.

     

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