Ensure your money is safe from inflation
WHEN the world turns topsy-turvy, savers want to stuff their cash under the metaphorical mattress. And up until very recently, National Savings & Investment (NS&I) index-linked savings certificates, which were linked to the RPI, were the product of choice.
More than £11bn was poured into these Treasury-backed certificates over the last five years as the tax-free income and inflation-beating guarantee attracted savers. And they didn’t just protect your from inflation – your initial outlay would be protected in full and the interest rate would never slip below 1 per cent.
But last week the NS&I announced that it had withdrawn these inflation-proof products from sale in the wake of excess demand. This year has seen consumer price index (CPI) inflation consistently exceed 3 per cent while the retail prices index (RPI) touched 5.3 per cent in April, its highest level in 19 years.
So at a time when inflation protection is needed more than ever, where can savers put their hard-earned money? Nothing even comes close to the NS&I’s index-linked savings certificates.
Cash ISAs might appear attractive – interest is received tax-free, you can put up to £5,100 into them every year and you don’t have to lock up your money. Thanks to the Financial Services Compensation Scheme, capital is also protected up to £50,000.
But they don’t protect you from inflation, especially when interest rates are so low. Even if you agree to lock up your money for five years, no cash ISA will currently offer you an interest rate that exceeds the RPI.
In terms of investments, you could look at fixed bonds and index-linked gilts. But neither offer particularly good returns on short-term fixed rate products. For example, the Santander 18-month fixed rate bond – one of the most generous on offer – requires you to lock up a minimum of £25,000 until February 2012 for an interest rate of 3.25 per cent.
Even five-year lock-ups won’t offer you more than 5 per cent – the ICICI five-year fixed rate bond is one of the best around right now but you’ll only get 4.75 per cent and can’t make any additional deposits during the term.
Adrian Lowcock, senior investment adviser at BestInvest, says: “Savings-wise, in the short-term you are going to find it difficult to protect against inflation in the current environment.”
But he doesn’t recommend locking up your money for anything longer than two years: “The problem is that you don’t know where rates and inflation will be in two years time.”
Instead, he points to dividend growth as a potential inflation-beating source of income. “Equities will benefit from rising prices in general and it is probably the most suitable given the uncertainty on the economy.”
Lowcock suggests both the Standard Life Higher Equity Income fund, managed by Karen Robertson and the Artemis Income fund, managed by Adrian Frost and Adrian Gosden. The Artemis fund’s historic yield is 4.8 per cent.
In terms of dividend growth, he recommends the Henderson Asian Dividend Income fund, which yields about 4.1 per cent a year and gives you exposure to a region which sees dividend growth of about 7 per cent a year.
No product will beat the NS&I certificates, but diversifying your income stream will give you some protection.