By BILL BLEVINS
Bill Blevins is Managing Director of Blevins Franks. He has specialised in expatriate investment and tax planning for over 35 years. He has written books and gives lectures on this subject in Southern Europe and the UK.
IN NOVEMBER, the Bank of England took the unprecedented move of cutting its official interest rate by 1.5 percentage points.
Rates now stand at just three per cent – the lowest level since 1955. Rates are expected to fall much further still, possibly to below one per cent.
Here in Europe, the European Central Bank cut its interest rate cut to 3.25 per cent. The ECB has not excluded a further cut in December.
This is the first time in the Euro’s history that the Eurozone interest rate is higher than the UK one.
While the interest rate cuts have been designed to fight the economic slowdown by helping borrowers, it seems unfair that savers should be penalised in the process. When you add in the inflation factor, bank interest rates are even worse than first appears.
Inflation for the EU was 3.7 per cent in October, wiping out the bank interest rate. In the UK it was 4.5 per cent, much higher than the current interest rate.
Inflation will continue to drop over the coming months but it should not be entirely ruled out as a risk. And of course, your bank interest earnings are taxed at their nominal returns and not the real returns after inflation. This is not a good time for savers.
Linking returns to the stockmarket would increase your potential for improved real rates of return over the longer term. This is where many people hesitate, because the trade off is that your capital is not protected and obviously may fall as well as rise.
Considering the torrid year equities have had, direct stockmarket investment has fallen out of favour. Nonetheless, for new investors, or those with capital to invest, this is probably a good time to buy shares since prices are very low and those who buy now will earn profits when the markets recover. A look back over history shows that the stockmarket recovers long before the economy does.
There are also alternatives to direct equity investment to consider, whereby you would benefit from stockmarket rises over an investment term, at the same time as protecting your capital from any market falls.
You could, for example, invest in a guaranteed investment account. The interest earned will be based on stockmarket performance over the term and not the central bank base rate. Provided the account offers a 100 per cent capital protection your capital cannot fall below the original value, and you will have the potential for higher returns than a bank account, depending on market performance. The returns will be added to your capital at the end of the term.
These 100 per cent capital protected accounts are usually available for a fixed investment term of between five and six years. While this means that you need to tie up your capital for this period, it also allows time for stockmarkets to recover from their current levels. Considering how low they are at the moment, it is fair to assume they will improve – and improve well – over the investment term. This type of investment is probably better value now that at any time in the past 15 years or so, especially as they also have beneficial tax treatment when held in a life assurance bond.
These accounts can be ideal for those who wish to put money aside for the future and with the potential for capital growth.
You are able to withdraw money should you find you unexpectedly need it, but returns will be compromised and you will lose the capital guarantee.
The returns are unlikely to be as good as direct investment into equity markets, but the capital guarantee makes this a happy compromise for many.
How much you will earn from stockmarket performance depends on the conditions of the account, but some do offer unlimited growth potential. Usually they are linked to around four stockmarket indices from around the world, which should be ring fenced. This would offer the security of returns from one index being protected from losses in another.
Even if all the indices end lower than on the start date, you will still receive 100 per cent of your original capital back (provided you have held the account full term).
If this type of investment appeals but you would like more control of when you can put money in and take it out, there are alternatives where you get a lower capital guarantee but where you can invest and redeem your investment at any time.
In return for the lower guarantee you get full control of your investment which is particularly attractive to some investors, and you still have much more protection than direct equity investment. These funds are useful for those who wish to ‘drip feed’ capital into investments, rather than investing all at once, a strategy favoured in times of market volatility.
Both these funds can be tax efficient if set up in appropriate arrangements.
There are many types of structured products on the market, and although at a glance they can appear similar, some are more risky than others and you may be better advised to leave your money in the bank. It depends on how they work and the guarantees offered. Ask your financial adviser to explain the product to you, including all the risks, and establish whether it will be appropriate for your objectives.
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