Lowes Magazine Issue 128

DOUG’S DIGEST

Is cash king?

class tends to produce positive returns over the following two years. There is a wide range from the 10.9% from June 1998 to the 18.2% and 18.8% achieved after July 2007 and August 2018 respectively, but it does highlight the potential for good levels of return to come from this asset class once interest rates reach their peak. It is a similar story with funds investing in corporate bonds. As an example, one of the strategic bond funds used within our portfolios currently has a yield to maturity of 9.45%. In essence, this means that if the fund manager does nothing more than let the existing bonds mature over the coming years investors could expect a return of 9.45% each year when capital growth is also taken into account. In reality the return would be less than this, as it is unlikely the fund manager could invest at equivalent rates of return in future years as at some point interest rates will fall, but it does give an indication of the potential that is available if we believe interest rates are close to their peak levels. This highlights another problem with moving to cash. Whilst the rates on offer are attractive now, at some point they will start to fall again. Since 1981, the first rate cut in the UK has come, on average, around 7 months after the last rise. That suggests that money put into a one-year deposit bond today will have to be rolled over next year when rates are potentially lower, and at that point other investment assets could also have moved on, offering a less attractive entry point then too. Like I have already said, past performance is no guide to the future and in reality no-one truly knows what will happen next. The war in Ukraine and the short-lived Truss government are two very different and recent examples of how things can change quickly and unexpectedly. Over the long term, however, history shows that equities tend to outperform cash. The Barclays Equity Gilt Study, for example, which covers data going back to the turn of the last century, shows that equities outperform cash in 76% of all five-year periods. That rises to 91% over ten years. Cash is, of course, an essential part of anyone’s portfolio, and we should always ensure that we have enough on hand to meet any emergency needs that can arise without warning, as well as providing a buffer when markets take a downturn. For those looking to the long term, however, it should only be one part of their portfolio and it is important to consider things coolly in discussion with your consultant to make sure your investment decisions are ruled by your head and not your heart.

No-one can deny that 2022 was a difficult year for investing. With most asset classes and regions falling significantly, it was hard for investors to generate positive returns over the period. After such a bruising experience it is not surprising that many are now considering moving their investments to cash, and with the interest rates on bank accounts rising over the last year, it is certainly understandable. But is it the right thing to do? The first thing to consider is that the rates on offer for cash investments are forward looking, and are a lot different from those available previously. The NS&I Guaranteed Growth Bond available this time last year only offered a rate of 1.85%, and the year before that it was down at 0.1%. If you had initially invested in an NS&I Guaranteed Growth Bond in September 2018, and rolled over the maturity every year into the Bond available at that time, your total growth to date would have been 5.93%; an annualised return of 1.16%. A positive return, and admittedly ahead of that available from UK Fixed Interest assets, but well behind equities, with the Investment Association’s (IA) UK All Companies sector average returning 8.97% over the same period, and the IA Global sector average returning 38.75%. Of course, not all investors are comfortable with the volatility that comes from investing in equities, and for those we would recommend a portfolio with a mix of assets suitable for their risk tolerance. Mixing together a combination of funds investing in equities, fixed interest bonds and alternatives such as commercial property, infrastructure and targeted absolute return funds. Fixed interest, property and infrastructure were particularly affected by rapidly rising interest rates over the last year, but again it is important to remember that we need to look forward when deciding where to invest. Rising interest rates are a hindrance for these types of assets, but falling interest rates can provide a tailwind. Although central banks may raise rates further if inflation proves to be stickier than expected, both the Federal Reserve in the US and most recently the Bank of England here in the UK have both “paused” their rate rises, to allow time to see the effect the recent rises will have. With the caveat that past performance is no guide to the future and may not be repeated, the accompanying chart shows the returns shown by the IA UK Gilt sector average, which includes funds investing across the range of fixed interest bonds issued by the UK government. The return in each case is measured from the top of the last three rate rising cycles by the Bank of England, and show that this asset

IA UK Gilts sector average - Total return after BoE’s last rate rise

25 20

15 10

5 0 -5 Percentage growth

Jun-98

Jul-07

Aug-18

0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 1516 17 18192021222324

Months since final rate rise

Source: FE Analytics. Total Return

Sources: Bank of England Base Rate changes – BankOfEngland.co.uk NS&I Guaranteed Growth Bond interest rates – www.nsandi.com IA Sector performance data – FE Analytics.

Lowes Financial Management and Lowes Investment Management are authorised and regulated by the Financial Conduct Authority. Visit: www.Lowes.co.uk | Call: 0191 281 8811 | Email: enquiry@Lowes.co.uk