More pain and no gain from interest rates
By Spectrum IFA
This article is published on: 10th June 2014
The European Central Bank made headline news again at the beginning of June, as it reduced its main interest rate from 0.25% to 0.15% and lowered its deposit rate into negative territory from 0% to -0.1%.
The reduction in the interest rate makes it less expensive for other banks to borrow from the ECB and ‘in theory’ this should result in credit flowing out to the wider Eurozone community. At the same time, the negative deposit rate means that the ECB will charge banks for keeping their excess liquidity on deposit with it. The thinking is that this should discourage the banks from making the deposits and instead, make the money available for lending to households and business thus, encouraging growth.
These measures are part of a package that also aims to increase the rate of inflation in the Eurozone, which continues to fall, as demonstrated by the change in the Harmonised Index of Consumer Prices for May, when the annual rate of inflation fell from 0.7% to 0.5%. However, there are many who think that the current measures are insufficient to turn the trend from continuing towards deflation and feel that more aggressive action should have been taken by the ECB, including an expansion of Quantitative Easing.
What does this mean for savers? There is only one answer and that is “bad news”. Even if the banks do start to lend more money into the wider community, since they can borrow from the ECB at 0.15% to do this, why would they borrow from the public (i.e. the savers) at a higher rate?
We have been living in a very low interest environment for several years now, although this is the first time that the Eurozone has gone into negative territory in ‘nominal’ terms. In ‘real’ terms (i.e. taking into account inflation), we have already experienced negative returns from bank deposits and even the most cautious of investors are now prepared to look at alternatives.
One such alternative is a particular fund in which many of our clients have already invested. Despite the fact that the fund is conservatively managed, over the last four years to the end of May, the Sterling share class has still been able to grow by more than 36% and the Euro share class by 30%. After taking into account annual management charges on the fund, the three year annualised return is around 7% for Sterling and around 5.5% for Euro. A growth fund is also available for those investors who wish to take more risk and USD share classes are available for both the cautious and the growth funds.
The funds are part of those of a large insurance company, which has a history going back for more than 160 years. The company is well capitalised and so clients feel comforted by the safety of investing with such a solid company.
One of the unique features of the funds is the delivery of a smoothed investment return. On a daily basis, each of the funds grows in line with an expected growth rate, which is the rate of return that the company expects the assets in which the funds are invested to earn over the long-term. This approach aims to smooth out the usual peaks and troughs of investment markets and so is particularly beneficial to investors seeking an income from their capital.
It is a well-known regulatory requirement for product providers and investment managers to tell investors that “past investment performance is not a guarantee of future performance”. Whilst this is true, in reality it is only by looking at the past investment performance of a fund that one can really judge the skill of the fund manager. This is not just about how good the manager is at picking stocks – but more importantly – about how risk is managed, particularly through market downturns. Happily, when I am discussing the above funds with clients, I am able to demonstrate the skill of this insurance company by showing a sixty-year history of positive investment returns on an annualised basis over 8, 9 and 10 year periods. This is another reason why cautious investors – who would have previously only ever placed their capital on bank deposit – are very comfortable about switching to this alternative choice.
The above outline is provided for information purposes only and does not constitute advice or a recommendation from The Spectrum IFA Group to take any particular action on the subject of investment of financial assets or on the mitigation of taxes.