The risks of investing in cash

The good thing about cash is that it doesn’t go down in value. Does it?

If measured in numerical terms, cash will usually not fall in value e.g. £100 invested in cash – for example in a bank account - will never usually end up less than £100, unless you draw money out.

That is one of the main attractions of holding your money in cash; you won’t see your money going down.

Cash deposits are also protected by the Financial Services Compensation Scheme up to a limit of £85,000 per person per bank (set to change to £75,000 per person and £150,000 for a joint account on 1st January 2016). This protects savers if their UK-based bank fails for whatever reason.

But the one thing cash deposits don’t protect savers and investors against is inflation. In other words, if you hold your savings in cash, will you still be able to buy the same amount of goods and services in one year’s or five year’s time as you can buy today?

As a simple example, if you invested £100 in cash and earned interest of 1%, you would have £101 at the end of that year. However, the price of goods and services generally rise and this is known as inflation. If inflation was 2% over the same year, something that cost £100 at the start of the year would cost £102 at the end of the year. This example shows that by investing your money in cash inflation can cause you to have less buying power at the end of the year.

Aviva research has found that, since 2003, the value of savings held in a 90-day deposit account has struggled to keep pace with inflation. It has mostly been losing its spending power.

Failing to keep pace with inflation is the one big risk of keeping your money in cash, particularly over long periods of time. If your investment goals are medium (five years plus) to long-term (ten years plus), it is sensible to consider other forms of investment based funds.

Aviva research has shown that shares or equities have historically proven to be a good investment for countering the effects of inflation over the longer-term.

However, shares do not come with a guarantee. As is commonly reported, shares or equities can fall as well as rise and you may get back less than you invested and past performance is not a guide to the future. It is good practice to consider the inflation risks of investing in cash alone.

 

 

AR01557 11/2015

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