Why choose an investment ISA over a cash ISA?
Content Manager, Saxo Bank Group
Summary: Prudent and profitable investing is contingent upon many factors, but when it comes to ISAs three things must always be considered – duration, risk appetite and inflation.
Returns speak louder than words
If you’re saving for the long term, then stocks and shares are likely to generate a higher rate of return than cash. In fact, if you hold your investments for at least 18 years, research shows that stocks and shares will outperform cash 99% of the time.1
Other research has revealed that a £1,000 investment in an average cash ISA at the start of the 1999/2000 tax year would’ve been worth £1,162 by the end of 2016/2017 (accounting for inflation), equating to an annual growth rate of just 0.89%.2
Conversely, £1,000 invested in the UK stock market in April 1999 could have been worth £1,841 by the end of the 2016/2017 tax year (based on the FTSE All-Share Total Return Index), representing an annual growth rate of 3.66%.
During that time we saw two stock market crashes, which just serves to highlight the relative long-term stability of performance.
Cash ISAs are not risk free
Savers have traditionally preferred cash ISAs as they offer a guaranteed return. Each comes with a payable interest rate, which, although variable, tends to deliver slow and steady growth.
However, with UK interests so low at present and inflation tottering above the 2% mark, the buying power of your cash savings is actually eroding in real terms every year. That means keeping your money in cash isn’t the risk-free option people often think it is, and it’s not a fantasy to expect interest rates to remain below inflation over the next decade.
While it’s impossible to predict how the stock market will perform, it’s important to think about how you can best utilise your ISA allowance. A stocks and shares ISA may be a slightly riskier proposition, but if you’re looking to maximise your returns long term, it could be a better alternative to cash.
Diversity is the spice of life
Stocks and shares might be the headline names within most investment ISAs, but they are far from your only option. Many providers enable you to create a diverse investment portfolio across equities, ETFs, bonds and investment trusts, as well as cash.
Multi-asset investing not only enables you to spread your risk across various holdings, but it has also outperformed cash every year since 20093. And when these assets are held within the ISA wrapper, they are exempt from capital gains tax, and tax on further interest or dividend income received.
That said, it’s vital that your investments are suitable for your personal circumstances and the level of risk you’re comfortable with, as the higher the risk profile of your investments the more likely they are to experience significant fluctuations in value. If you’re not confident in choosing your own investments, a financial adviser can help identify your risk appetite and investments that are aligned with it.
Look to the future
Time horizon is a key consideration when choosing which ISA to invest in. Saving for retirement, for example, might mean that you’re more at ease navigating the short-term ups and downs of the stock market, knowing that your portfolio has adequate time to recover. In turn, this will have a direct impact on the amount of risk you’re willing to take on.
Perhaps it’s time to ask yourself whether you’re overly reliant on your cash ISA for your long-term savings – you could be losing money in real terms – and whether an investment ISA is a better solution.
1Source: Barclays Equity Gilt Study March 2016, Figure 8 p61.
2Source: Schroders - Cash ISA vs stock market ISA: which has returned the most?
3Source: Royal London, The Curse of Long Term Cash , as of January 2017
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