The curse of long-term cash

Trevor Greetham, Head of Multi Asset at Royal London Asset Management, reveals why clients should be seriously concerned when short-term holdings of cash turn into a long-term investment.

There is nothing wrong with holding wealth in the form of cash on a short-term basis. For many people capital stability is important and access to ready cash is part of prudent financial planning. But when short-term holdings of cash turn into a long-term investment we should be seriously concerned.

Large holdings of cash are vulnerable to bouts of unexpected inflation, like the 1970s, or long periods with interest rates well below the rate of inflation – like today.

Since the financial crisis, cash has returned 1% or less a year, consistently below the prevailing level of inflation. We expect this situation to continue with the Brexit negotiations keeping UK interest rates low as the weak pound pushes inflation higher, eroding the real value of cash savings.

Doesn’t everyone know this already?

Many people still hold a significant part of their long-term wealth outside their home and pension in cash. In 2015/16, nearly three-quarters of the £80 billion invested in adult ISAs went into Cash ISAs.

As a result, millions of people are seeing negative real returns on their long-term savings.

Multi-asset approach is a more appropriate long-term strategy 

By contrast, money invested across a wide range of asset classes – multi-asset investment – has beaten inflation and outperformed cash by a wide margin. No single asset class is likely to provide the combination of stability and return which most individuals would seek.  But investment in a well-managed multi-asset fund can diversify risk whilst including exposure to higher returning assets.

Since the financial crash of 2008, such a strategy would have consistently outperformed cash in each and every year.  The difference between the two approaches is the difference between turning £1,000 from 10 years ago into less than £900 in today’s money with a Cash ISA investment against an estimated pot of over £1,500 on the same basis in a multi asset fund.

We estimate that Cash ISA savers as a whole have missed out on more than £100 billion in tax-free gains over the last decade.

Long-term savings require a long-term investing approach 

ISAs are increasingly being used as part of a long-term savings strategy alongside pensions, but holding cash is not a sensible option when interest rates are close to zero and inflation is on the rise. In the short run, cash is safe but in the long run it is risky.

Advisers are in the forefront of helping wean individuals off the habit of using cash as a long-term savings vehicle and opting for a more appropriate mix – some cash to meet short-term needs, but looking at other assets to meet long-term aims, with retirement the most important.

Source

The Curse of Long Term Cash – Royal London