• Bank of England predicts CPI inflation will hit 4% by end of 2021
• Inflation is expected to remain above the Bank’s 2% target until the end of 2023
• Cash savers stand to pay £34 for every £1,000 in top easy-access account
Laura Suter, head of personal finance at AJ Bell, comments:
“Inflation is now the biggest monster that both savers and investors have to tackle, with 4% being a very lofty hurdle to reach before you make any positive returns. If the Bank of England soothsayers are correct we’ll see cash savers face further clobbers to their returns and a scramble to inflation-beating assets.
“Cash savers have already been through the wars as savings rates dwindled dramatically during the pandemic, from a low bar. With inflation currently at 2.5% savers are already facing losses in real terms, even if they’re willing to lock up their money for years. But there’s no reprieve on the horizon, if interest rates remain stubbornly low and inflation soars to 4% savers will pay a high price for the safety of cash. What’s more, the Bank of England isn’t seeing this as a short-term problem, expecting inflation to stay above its 2% target for more than two years.
“With the top easy-access cash account currently paying 0.6% savers really need to question whether they need all the money they’re holding in cash. At that rate and if inflation hits 4%, savers will pay £34 a year on every £1,000 they have saved, just for the pleasure of keeping it in cash. Clearly cash is key if you need short-term savings or don’t want to risk your money on the stock market, but we’re a nation of cash hoarders and many people are holding far more than they need.
“What’s more, UK households currently have £240 billion in accounts paying no interest, so at the very least these savers should get the best returns they can – although with such dismal rates on offer it’s understandable why savers can’t get too excited to switch.
“It’s likely we’ll see a move to gold as a safe haven that is seen as having more inflation-busting properties than cash. After soaring during the early stages of the pandemic, gold prices have stabilised more now, but it’s likely they’ll head north if savers scramble for returns.
“The natural path for savers wanting to beat inflation is trading up the risk spectrum and moving into equities in the hope of higher, inflation-busting returns. After an impressive 25% rise in payouts, the FTSE 100 is forecast to yield 3.7% this year, falling slightly short of the crucial 4% target investors have been set. But coupled with capital returns investors could put themselves in the black in real terms. What’s more, among those 100 leading companies there are many that are paying above-inflation income.
“Unfortunately for investors, inflation has been above the 2% target for some time, meaning inflation-beating assets have become pretty crowded. One example is infrastructure projects, which have inflation rises baked into their contracts and so are very attractive to investors. But infrastructure investment trusts are already trading at meaty premiums, with 3i Infrastructure on a 17.4% premium, for example, while HICL sits on a 13.7% premium. This is high entry price for investors to pay just to access the asset class.
“One easy step for investors is to protect your money from tax, as you’re taxed on your nominal returns rather than your real returns. This means if your returns are 4% and inflation is 4%, you’ll still be taxed on your 4% gain despite breaking even in real terms. Shuttling your money into an ISA or pension will help protect from tax hits.”