With rising inflation, many are starting to see how investing their money can lead to better returns.
On New Year’s Day, many kickstart January with a New Year’s resolution. Some give up chocolate, while others exercise more. A few take up a new hobby. But a handful resolve to spend less and save more money. And while this is a worthwhile goal, savers in 2022 should expect to be hammered by rock-bottom interest rates and soaring inflation.
The Office for National Statistics put November’s UK Consumer Prices Index inflation rate at 5.1%. And it’s expected to rise further before calming down. The Bank of England has responded by raising the base interest rate from 0.1% to 0.25%, and some banks are starting to offer slightly higher interest rates on savings accounts. But the interest rates on offer aren’t keeping up with inflation.
And this means that money sitting in a typical UK bank account loses spending power every day. As prices rise but account balances seem to stand still, more and more consumers are starting to notice.
Meanwhile, energy bills are slated to rise an additional 50% in April. The average household gas bill could soon hit £2,000 per year, with Ovo CEO Stephen Fitzpatrick believing gas prices will ‘become an enormous crisis for 2022.’
And according to Nationwide, the average home is now worth a record £254,822, having risen a staggering £23,902 over the past year. Rents have soared to a record average high of £1,029 per month. And there’s a raft of tax rises coming in April, that the Resolution Foundation believes will make the average household £1,200 a year worse off in 2022.
The question then, is one of how consumers can best put their money to use next year. Of course, every individual has different needs. But over the long term, investing has proven to generate better returns than leaving money in saving accounts. But while a third of British citizens want to start investing in 2022, most don’t know how.
Starting to invest
To re-iterate; this is general guide, and not investment advice. Personal finance is complex, and it may be better to take professional advice.
That said, there are some oft-taken preparatory steps. The first is to pay off any high-interest debt. According to the UK Debt Service, the average credit card debt per household stands at £2,085, while total unsecured debt is £3,713 per adult. Bank of England figures show that the average annual interest rate on credit cards is 21.49%, and borrowers pay £122 million per day in interest alone. By comparison, the FTSE 100 rose 14.3% in 2021, its best year since 2016. An individual with average unsecured debt and credit terms is best off paying it first.
The second is to max out any workplace pension, which is an incredibly tax-efficient method of investing for most employees. For some, it can make sense to invest in a Self-invested Personal Pension (SIPP) as well, but that’s beyond the scope of this article.
Then it’s worth considering how much money can be comfortably invested. Many advocate for pound cost averaging; rather than investing a lump sum all at once, putting smaller amounts of money into the markets over a long period of time. It’s common to invest a set percentage of net pay each payday. While this method restricts investment at the top of the market, it also stops investors from ‘buying the dip’ and acquiring more shares for the same amount of money.
And the market does ebb and flow. The UK’s most well-known index is the FTSE 100, which represents the UK’s 100 most valuable companies by market cap. In 2020, the pandemic crashed the index 14.3% to 6,460 points over the course of the year. In 2021, it rose 14.3% to 7,384 points. And as past performance is no guarantee of future results, 2022 could see similar volatility, or none.
But as a rule of thumb, time in the market beats timing the market. The index is up 574% since its inception in 1984. And as short-term market volatility is relatively common, investors usually plan to keep their money in the market for at least five years, and often longer. Moreover, markets crashes are often accompanied by economic recessions— along with redundancies, corporate bankruptcies, and general upheaval.
Therefore, the time when investors might need to ‘cash out’ their investments is often exactly when the investments are at rock-bottom. Therefore, it can make sense to have several months’ worth of living expenses saved in cash before starting to invest.
Finally, for those under the age of 40, opening a Lifetime ISA (LISA) is a popular choice. The government will top up £4,000 of savings per year with a £1,000 tax-free bonus up until the age of 50, and account providers will add interest as well. This represents a virtually unbeatable zero-risk 20%+ rate of return.