It’s a question many investors have been asking themselves lately: “With interest rates now the highest they have been for years, shouldn’t I get my money out of the markets and just put it in the bank instead?”
We understand. Cash might well seem like a tempting prospect at the moment, with its simple nature and static ‘pounds and pence’ value now joined by decent mid-single digit interest rates too.
However, in most cases, we do not believe that it will be in investors’ best interests to get out of the markets in favour of cash.
Here are a few reasons why:
Even the best cash rates available on the market remain below the current rate of UK inflation. This means that those piling into cash at the moment may be making real-terms losses, unless inflation falls sharply in the very near future. At the time of writing in October 2023, some one-year fixes are offering rates of around 6% to savers – but this is still a return below the UK’s latest published inflation rate of 6.7% in the year to September 2023.
High cash rates won’t last forever. History shows that interest rates rarely remain at their peak levels for very long after a rate-raising cycle has concluded – typically just a few months on average. Investors forgoing the capital markets for an easy-access savings account or short-term fix risk finding themselves with only much lower cash rates available a few months down the line: and possibly having missed out on a big run up in markets in the meantime.
Timing the markets usually doesn’t work as well as ‘time in the markets’. Sitting out of the markets in cash while conditions appear turbulent, then getting back in when the waters appear calmer, is of course a tempting idea. However, the difficulties with this concept are manifold. First: there is always something about which investors could be worrying – it could be a very long stint in cash indeed if you are waiting for a complete ‘all clear’ in global finance, economics and geopolitics (!) Second, even if this were possible, remember that a large portion of market returns is essentially compensation for risk. In a perfect world of zero uncertainty, there would be little reason for assets to offer any returns above cash. Third: it is basically impossible to predict when the market’s very best days will occur…
… and missing even a few of them could severely damage your long-term returns. History shows that the best days in the market often occur right next to some of the worst. For example, five of the FTSE All Share’s ten best days since 1986 occurred between September and December 2008 – right in the teeth of the global financial crisis. The second-best day overall was 24 March 2020: which might ring a bell as the day after the UK entered the first coronavirus lockdown. Worse, had an investor missed just these ten best days over this near-four decade-long period, their overall returns from the index over this time would have been cut almost in half .
Medium-term forward returns look attractive at present – but nobody can forecast the precise sequence of those returns. Much has arguably been priced into markets over the past two years or so of turbulence and there has been real resilience across the major economies, catching economists by surprise. In turn, this means that our expectations for forward-looking, medium-term market returns, known as Capital Market Assumptions, have improved hugely:
|Portfolio risk level, growth assets (%)
|Average annual return expected over each of the five years 2023-28 (%)
While these figures are not guaranteed, we believe they represent the average annual returns investors in the portfolios can expect – net of investment fees – across the next four years or so. But we cannot control or forecast the sequence by which they will come: the returns in some individual years are likely to be higher, and in some years lower, than these figures. Sitting in cash now risks the possibility that these average returns turn out to be effectively ‘frontloaded’ by coming very soon, with lower numbers then in the latter years of the forecast.
The low volatility of cash – call it the ‘peace of mind’ factor – is likely to come at a high price over the long-term. Data shows that £1 held in cash and in receipt of deposit interest from the year 1900 would have doubled in value to £2 by the end of 2022. However, the same pound invested instead in UK government bonds over that period would have quadrupled in value to £4. And what if invested in UK shares for those 122 years? That £1 would have grown to an astonishing £386!  These superior returns come because ultimately, owning financial assets represents owning a stake in human ingenuity and progress: something against which it has never been wise to bet so far.
We would never dispute that cash has its place as part of any investor’s overall portfolio of assets – indeed, it is good practice to keep a portion of one’s wealth in cash to act as an ‘emergency fund’ should such be needed. The stability of the nominal value of cash can also be useful in lowering the overall volatility of an investor’s portfolio. So higher rates are welcome from this perspective.
Yet overall, as we have covered above, we do not believe that a wholesale switch of assets to cash is likely to serve the interests of most long-term investors well. To build wealth meaningfully ahead of inflation over time, taking some degree of risk in financial markets is essential.
Please get in touch with your Furnley House financial adviser if you would like to discuss the benefits and costs of cash holdings further.
 Figures from Liontrust Asset Management, covering the period 1 January 1986 to 31 July 2023
 Figures from JP Morgan Asset Management, Guide to the Markets 2023 Q4