High Inflation - Damage Limitation Strategies For Savers
In addition to this article we have published a case study where somebody with £50,000 in cash savings used the strategies and ideas below to semi-inflation proof their savings. Read more on this link - How To Create The Best Anti-Inflation Proof Savings Account In Today's Nasty Economic Climate
Confirmation of just how bad the global inflation menace currently is comes from the economist John Williams who runs an interesting website called Shadowstats.com.
As most of us know, Governments (at least all the major Western ones) fudge the calculation of their inflation figures by basically removing any product or service component that has an irritating habit of trending higher in price and replaces them with goods/services that stay flat or go down in value.
But the economist Williams has gone back in time to calculate what official the US Consumer Price Index (CPI) would be if the same calculation methods were used from both 1990 and 1980. The findings aren't good news.
- CPI in the US is now 'officially' 4.3% (Feb 2008)
- But if the same calculation method from 1990 was used the CPI would be currently at 7.6%
- And if the same calculation method was used from 1980 the CPI would now be a monstrous 11.8%
The findings unfortunately make it very hard if not impossible for anyone with large cash savings to totally protect their (cash) money from the inflationary pressures we're now experiencing. This is because the simple answer for those seeking protection would be to 'buy inflation proof bonds', also called index-linked bonds or certificates.
These bonds generally work in a similar fashion as they pay x% + the current Retail Price Index. However if the current RPI is indicating a lower rate of inflation than its real rate, due to the fudging of the figures, then I think we are experiencing somewhat of a false sense of security.
Right now for example we suggest that street inflation, the rate that we all experience in everyday living is minimum of 8% in the UK and most probably a similar level in continental Europe and the US. This therefore means that all savers must also get around 8% net on their money to perfectly hedge against inflation and that's such a tall order today even when there are some great savings accounts around.
Damage Limitation Is The Best Savers Can Do
The only way that savers can start to limit the damage of inflation is to get proactive and seek out the highest possible rates of interest plus, although they're far from perfect, add in some index linked bonds. There are two types of index style bonds -
National Savings & Investments (NS&I)
- Called Index-Linked Certificates, available for either a 3 or 5 year term
- Both pay at present 1.35% + the current RPI, which means the overall returns will fluctuate as the RPI moves up/down
- All returns are 100% tax-free and whereas this is a good advantage for those who pay tax at the lower-rate, higher rate tax payers get a far better deal
- With the RPI currently at 4.1% the tax-free return for lower rate taxpayers is equivalent (GROSS for both figures) to 6.81% and 9% for higher rate payers
- Minimum investment of £100 maximum of £15,000 in both of the 2 certificates (3 & 5 year), couples can invest as individuals
- The certificates are inflexible. Yes, money can be withdrawn at any time but with associated stiff financial penalties
- More details on the NS&I website
The Leeds Building Society also sells a similar product called the Inflation Buster Bond. They pay 2.5% + the current RPI for different yearly terms with no money allowed to be added or withdrawn during the term (but do check the small print as there are a number of different issues).
The returns on these products are not tax-free however the Building Society is introducing an Cash ISA version of this bond and that is definitely worth checking out.
Government Index Linked Gilts
Most governments also sell a range of index linked bonds and currently we've seen some experts liking the UK Index Linked 2.5% Gilt maturing in 2024. These are tradable on the markets so investors are never locked in.
However, for many Gilts are both hard and expensive to buy so perhaps a better plan would be invest in a specialist bond fund that buys Index Linked products. I've just spent 5 minutes on Google searching for 'index linked bond fund' and most of the big fund management houses offer them.
If you ever want to research individual funds then these two websites offers the data and tools -
Top Paying Savings Accounts
Right now it's very hard to beat the interest rates on any of the following savings accounts (the trouble is that new accounts are being added and deleted almost on a daily basis) -
- Anglo Irish Bank Instant Access at 6.3%
- Alliance & Leicester eSaver at 6.5% (comes with a 0.62% bonus until May 2009)
- West Bromwich Star Easy Access Account at 6.55%
- Coventry Building Society 50+ at 6.4% (fixed for 1 year but only available to people over 50)
- Skipton Building Society Easter Bond - 6.54% gross fixed until Sep 2009
It doesn't take long to open an account, the process can be done online for many of them, and it really is imperative to get these kinds of rates if your cash isn't going to be savaged by inflation. That point might be obvious to many readers but it is surprising how many billions of pounds in savings are currently in accounts paying 4% or less, some of them even go as low as 1% to 2%.
Tax Free ISA Savings
From April 2009 onwards the annual cash amount allowed to be invested in a Cash ISA will be increased to £3,600 (also a maximum of £3,600 can be paid into a Stocks & Shares ISA). All returns are tax free and while that might not amount to much of a saving in any one year (on £3,600 or less) if you can build up your ISA money over 5-10 years the tax-free returns can be most impressive.
Barclays have just introduced the best paying Cash ISA called the -
- Barclays Tax Haven ISA
- Pays 6.5% AER
- Instant access (although once money has been withdrawn it cannot be replaced)
- Minimum opening balance of £1 and further money can be deposited over the tax-year
- No current ISA money is allowed to be transferred in, ie money in existing ISAs cannot be moved to this new account
- Note that this account comes with a 1% bonus for the year so if you always want the best rate be prepared to move your money in a year's time when the account will very likely become uncompetitive
Another ISA we like is -
- Scarborough Building Society Direct Notice ISA
- Cash ISA paying 6.3% with a guarantee that it will remain at least 0.25% above base rate until April 2009
- After that the account will track the base rate until April 2010
- Minimum investment is £1,000
- Should you wish to withdraw any money you can either give 30 days notice or lose 30 days of interest
Be careful when you transfer any present Cash ISA money you already have. If you go down to the bank and draw it out, then deposit it into another cash ISA account all the tax-advantages will be lost. You must therefore ask your bank or building society for details on the proper procedure.
Savings Summary
As I said above, being proactive with your savings is really the only anti-inflationary strategy available to all savers right now. Don't delay because inflation is not going to go down in 2008 and likely beyond.
This Just In
Thanks for reader Jean DF for letting us know about this long term fixed ISA.
The Halifax has introduced a 4 year fixed rate Cash ISA paying 6.2% -
- Minimum deposit of £3,000
- NO additional deposits allowed during the 4 years
- Very inflexible, you'll lose 180 days interest if you make an early withdrawal
If I had in excess of £20,000 built up over the years in Cash ISAs I would probably invest up to 20% in this ISA to lock in the rate (assuming I didn't really need any access to the money over the next 4 years).
But of course it all depends on your view on interest rates over the next several years. Right now 6.2% fixed for 4 years looks somewhat enticing, but again only for part of a large Cash ISA account.
