Forget a Cash ISA! Following Warren Buffett’s strategy could boost your pension by thousands

Investing in undervalued shares could help you to retire early.

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

Had Warren Buffett invested his capital in savings accounts, he would not have become one of the wealthiest people on earth. Instead of generating a market-beating return over a sustained period of time, his capital would most likely have delivered a negative real-terms return. As a result, his spending power would have declined, rather than risen.

As such, following Buffett’s lead and investing in the stock market instead of holding cash could be a good idea. As there are numerous companies that appear to be undervalued at the present time, now could be the right time to buy stocks. It could improve your retirement prospects and boost your passive income in older age.

Negative returns

Cash ISAs may offer no risk of loss, but when inflation is factored in, they currently produce a negative return. For example, the best Cash ISA rates are around 1.5% at the present time. With inflation expected to remain above 2% throughout 2020, an investment in a Cash ISA is likely to be able to purchase fewer goods and services in a year’s time than it is today. Money in a Cash ISA may be ‘safe’ but that strikes me as madness.

Over time, negative real-terms return could become increasingly destructive to your retirement prospects. Therefore, even though having some cash on hand at all times is a good idea in case of emergency, relying on a Cash ISA to build a retirement portfolio is unlikely to be a worthwhile move.

High growth potential

By contrast, buying undervalued shares as Warren Buffett has done during his career could be a highly profitable idea. Certainly, not all investors will be able to achieve his level of outperformance of the index over a long period. But even achieving a similar return to the wider stock market, such as the FTSE 100’s historic return of 8% per annum, could lead to significantly higher returns than are available through holding cash.

Of course, the stock market’s current price level suggests that its returns could be highly appealing in the long run. The FTSE 100, for example, yields 4.5% at the present time. This is above its long-term average, and indicates that investors are pricing in a wide margin of safety. Although this may be valid in the short run due to the risks faced by the world economy, over the long run, the index’s yield suggests that it could offer a favourable investment opportunity.

Risk/reward

For some savers, the idea of losing money in the stock market makes it highly unattractive. However, by diversifying among a wide range of shares and adopting a long-term outlook, it may be possible to overcome many of the risks associated with buying shares.

Furthermore, from a risk/reward standpoint the stock market’s return potential could make its relative uncertainty compared to a Cash ISA worthwhile for many people – especially those who are seeking to build a retirement nest egg to retire early.  

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Young mixed-race couple sat on the beach looking out over the sea
Investing Articles

I’d put £20K in an ISA now to target a £1,900 monthly second income in future!

Christopher Ruane shares why he thinks a long-term approach to investing and careful selection of shares could help him build…

Read more »

Mature couple at the beach
Investing Articles

6 stocks that Fools have been buying!

Our Foolish freelancers are putting their money where their mouths are and buying these stocks in recent weeks.

Read more »

Black woman using loudspeaker to be heard
Investing Articles

I was right about the Barclays share price! Here’s what I think happens next

Jon Smith explains why he still feels the Barclays share price is undervalued and flags up why updates on its…

Read more »

Investing Articles

Where I’d start investing £8,000 in April 2024

Writer Ben McPoland highlights two areas of the stock market that he would target if he were to start investing…

Read more »

View of Tower Bridge in Autumn
Investing Articles

Ahead of the ISA deadline, here are 3 FTSE 100 stocks I’d consider

Jon Smith notes down some FTSE 100 stocks in sectors ranging from property to retail that he thinks could offer…

Read more »

Young female business analyst looking at a graph chart while working from home
Investing Articles

Why I think Rolls-Royce shares will pay a dividend in 2024

Stephen Wright thinks Rolls-Royce shares are about to pay a dividend again. But he isn’t convinced this is something investors…

Read more »

Investing Articles

1 of the best UK shares to consider buying in April

Higher gold prices and a falling share price have put this FTSE 250 stock on Stephen Wright's list of UK…

Read more »

Person holding magnifying glass over important document, reading the small print
Investing Articles

The market is wrong about this FTSE 250 stock. I’m buying it in April

Stephen Wright thinks investors should look past a 49% decline in earnings per share and consider investing in a FTSE…

Read more »