The cost of cash
“Cash is like oxygen – you want to be sure it’s around, but you don’t need to have excessive amounts of it around” – Warren Buffet.
We know the tax benefits of sheltering hard earned in an ISA. But what if you hold cash in it? Holding your ISAs in cash rather than stocks and shares has a significant cost. So what is the cost of cash?
- A typical couple holding, say £20,000 each in cash ISAs may be missing out on £15,368 of real return over 10 years.
- Inflation and opportunity cost are factors that impact real returns.
- With inflation looking like being at its highest for years, the erosion of value is increased.
How much cash is too much?
A certain amount of cash is a good thing, because it is immediately available it’s great for handling unexpected events as well as your general living expenses. But why not hold all your savings in cash? Because cash isn’t earning anything whilst it’s, well…cash. In fact, it’s losing money, and in two major ways.
1.You are losing through inflation. g. if you have £40,000 of savings in cash (for example, two cash ISAs of £20,000 each), then in 10 years with inflation at 2.5% per annum (a very conservative estimate currently), it’ll only be £33,018. You’ve lost £6,982 of buying power.
2. You are losing through the opportunity cost. In other words, what you could have gained through a higher rate of investment return, compounded. E.g. if you don’t need this £40,000 for 10 years, you may decide to invest it in a typical balanced fund, let’s say one with an average per annum gain of 4.0% (after fund charges) and let’s assume you won’t be touching the money for 10 years. In this case, you will have more than offset inflation, and will have £46,421 in the value of today’s money – a gain of real buying power of £6,421 after inflation. In actual terms you will have £59,210, which is the £40,000 compounded at 4% per annum over 10 years.
So, you will have avoided losing the difference between the invested amount and the savings account amount – a difference of £13,403. You will have avoided losing even more if your alternative to investing had been to hold onto the cash in, say, a cash ISA or a current account that paid no interest – a loss of £15,368 avoided.
The cost of cash
We can help you to avoid such losses, and we always start by considering how we can use your existing provisions to help you achieve your financial goals. We do this before we look to see how we can build upon the progress you have already made. So please do get in touch.