Why are we encouraged to save money? From childhood many of us are told to save for the future – perhaps for something special or to ensure we have the funds when we really need something.
Whether you place your money in a piggy bank or in a multinational investment house, our aims are broadly the same; to provide for our future needs and to protect ourselves against unexpected causes of expenditure.
When planning your finances, it is important to distinguish the difference between savings and investments. Savings are generally funds that you set aside, but can access relatively quickly. These savings are often for a specific need or purchase, like a holiday or a new car. The most common way of ‘saving’ is into a bank account (‘deposit’ account) where the money can be accessed in an emergency, and for every £1 you put in, you will get £1 back (short of a bank collapse!) possibly with some interest.
Investments are designed to be held for a longer term, usually at least five years. You need to be comfortable with tying up this money for a period of time and should not consider investments unless you have some savings in place. Most investments are not guaranteed to return your money in full, although do offer the prospect of higher returns than deposit accounts. Returns, risk and volatility are the factors that will determine a suitable place for your savings.
Savings and investment products range from a simple current account, which allows a small amount of interest but facilitates regular payments and withdrawals without detriment to your savings. At the opposite end of the scale are company shares, where you invest money in a company with the prospect that the company will prosper and the shares will increase in value over time. Whilst the benefits are potentially high, the risks are also much greater.
There are so many different mediums in which to invest, and here we look at just a few, that are in our view the key areas:
Bank Accounts – current accounts may offer a very low rate of interest (if any) but they are the most flexible in terms of accessing your money. Banks can also offer savings accounts, with higher interest rates, and also notice accounts with very competitive interest rates. However, you may have to give a certain amount of notice before making a withdrawal (60 or 90 days perhaps), or you must agree to invest the money for a set period of time.
National Savings – these products are backed by the government and operate like bank accounts to a certain extent. There are some tax-free products available and they are generally considered low risk.
Bonds & Gilts – Bond/Gilt funds are generally considered to be lower risk than direct equity (share) investment although the value can still fall as well as rise. Bond markets can be split into two categories. Corporate bonds are investments based on business loans offered by private companies and are ‘rated’ based on the ability of the issuer to maintain interest payments and repay the loan. A corporate bond fund will invest in a wide range of these loans. ‘Investment grade’ stock within the fund is rated AAA to BBB, whilst stock rated a BB or below is termed ‘sub-investment grade’ and is sometimes referred to as ‘High Yield’. Some funds also invest in Government Bonds (known as Gilts in the UK).
The income yield that is available from fixed income investments varies according to the quality of stock. Lower quality (sub-investment grade) stock usually offers a higher yield to attract investors (as they may be otherwise put off by the increased risk/volatility) whilst gilts generally offer much lower returns, since they are underwritten by the government and so the risk of default is much reduced. As things stand, in order to achieve a reasonable yield without taking too great a risk an actively managed fund that invests in both gilts and corporate bonds (i.e. investment grade and high yield) represents the most suitable option.
Property – the historic performance of commercial property has very little correlation with the performance of corporate bond or equity based investments. For investors looking to diversify their portfolio, property funds have historically offered attractive returns with relatively strong defensive characteristics (i.e. low volatility). Income from commercial property funds is often derived from contractually binding agreements of rent paid by business tenants to occupy property. Consequently leases are often arranged over a long period and generally include an ‘upwards only clause’, which ensures that rents are not negotiated downwards during the lease period, even in times of falling markets. Commercial property tends therefore to offer a more stable return than, for example, dividends paid on equities.
Equities (shares) – over the very long term, equities have historically offered better returns for investors. Although this is not a guide to the future, it is felt that the increased risk of investing in company shares can potentially be rewarded by investment returns in excess of what is available from traditional bank or deposit accounts. However there are no guarantees.
Investment ‘Funds’ – specialist investment managers will often manage a fund (a pool of investments) that invests in one or more of the above categories; the aim being to diversify the risk across a spread of shares, or bonds, or both. There are hundreds of investment funds available, each with their own specific aims and objectives. Investment funds can also specialise in one particular sector, such as only investing in companies that are listed on the FTSE100 index, or only investing in construction and mining companies. There are also funds that invest geographically, perhaps only buying shares in Japanese or American companies. Each sector has its own unique characteristics, and your adviser will be able to explain more about this.
All these types of investment are available through an Independent Financial Adviser and at Concise Wealth we can help you to choose the right one that is most suitable for you. You may be able to include your investment within a tax-efficient product such as an Investment Bond, ISA (Individual Savings Account), unit trusts or even a pension.
The value of investments can fall as well as rise and you may not get back the full value of your original investment. Past performance is not a reliable indicator of future results. Contact your Financial Adviser before making any decisions.
The Financial Conduct Authority does not regulate National Savings Products.