I tried recently to explain the virtues of cash to a hall full of financial advisers. It was hard going. Not least because some seemed determined to misunderstand me and then argue against not what I had said but their misunderstanding of it. Sigh. So, here goes again…
Cash has its place. Not just for that old financial journalist cliché of keeping three months’ salary for contingencies but for serious, dare I say it, investing.
Ok, that sounds like a bit of contradiction in terms, as saving and investing are different, so let’s call it “serious money in cash” rather than “investments”. Cash may not be king but it has an important place in the financial court.
It is not every adviser’s favourite asset class, and it is one many do not know a lot about, but its first merit is this: it does not disappear. You put £10,000 in a bank for a year when you do not need it and 12 months later, when you do, it is still there. All of it. Guaranteed.
Second, cash makes real returns. At the end of that one-year bond, the bank will add £200. That is £200 for doing nothing. From April, that will be tax free for 95 per cent of savers. If you tie it up for longer, you can get £300 a year. Take a look at day to day cash savings rates online; I bet they will be a lot higher than you expect.
Third, whatever the return on a fixed-term bond, it is known at the start and guaranteed: two things that are very rare in honest financial products. Finally, no one will take any charges from it. It does not need managing, there is no turn on buying and selling, and no brokers or advisers to take a cut. What investment can match that? None.
“Ah yes,” my interlocutors said, “but what about inflation? Your £10,000 will not be worth £10,000 after five years, will it? That is the risk with cash.”
Now, I am not going to say inflation does not erode the value of capital. Of course it does. But it erodes invested money as fast and to exactly the same extent as saved money. If the income is taken out, £10,000 in shares which, after deducting charges, is worth £10,000 in five years will have been eroded in real value identically with that cash. If inflation is 2 per cent a year, then by 2020 both will be worth about £9,000.
Advisers are sometimes stuck in the past when it comes to inflation rates. Some I spoke to recently told me the value of money halved every 10 years, which is an inflation rate of 6.7 per cent – something we have not seen since 1991.
In fact, at the Bank of England target of 2 per cent, it will take 34 years for the value of money to halve. This century, RPI inflation has averaged 2.9 per cent and CPI 2.1 per cent. But let’s say it again: whatever inflation is it erodes investments at the same rate as it erodes savings.
Of course, the hope is that invested money will grow faster than savings. If I had an infinite time, or indeed just a whole lifetime, shares would be the place for me. But over five years? What are the chances it will have grown at all after charges, never mind faster than cash?
A quick look at the FTSE 100 index – without adding dividends or deducting charges – shows that, in any random five-year period from 1995, the chances are less than even that the index will have beaten the 3 per cent a year guaranteed available on a five-year cash bond.
That is the nature of risk: risk does not mean reward. It may bring a reward; it may bring a loss. It is symmetrical. Especially over a short period.
And shorter periods are when cash comes into its own. This is particularly true at that phase we now call decumulation: the time between retirement and death when you live on the money that has been carefully accumulated over a working life into a pension.
Indeed, when you are in your last years you do not want money to grow and you do not want to add to it. You just want it to be there. A bit of growth may be nice but the key in decumulation is certainty. Strong growth may make your money last a couple more years but it is the extraction rate that matters.
“Ah-ha,” my interlocutors say, “but cash funds you can put pensions into pay almost nothing.” I agree: cash funds are a con, returning well under 1 per cent and charging about the same.
However, there are dozens of actual cash accounts with banks and building societies that can be used for pension funds in Sipps or drawdown. The best over five years pays 2.9 per cent, over three years, you can get 2.5 per cent and over one year, 2 per cent.
All are protected up to £75,000 by the Financial Services Compensation Scheme so, in using a number of them, you can set up a safe regular withdrawal plan as the bonds mature. Not all Sipp providers, including some of the best known ones, will allow cash deposits to be held but more than 50 will.
So while cash may not be everything, for most customers, especially older ones, it certainly should be something.
Paul Lewis is a freelance journalist and presenter of BBC Radio 4’s ‘Money Box’ programme. Follow him on twitter @paullewismoney