National Savings pulls the plug on inflation-linked savings certificates.
As I've written before, investment gurus such as David Swensen and James Montier regularly point out that decisions about asset allocation play an important part in determining the overall return that an investor makes over time.
In short, goes the advice, cash, property, UK shares, foreign shares, fixed-income instruments such as gilts, bonds -- each should have their place in an investor's portfolio.
Why? Because not only does restricting your investing universe to (say) UK-based equities provide insufficient diversification against risk, but also because a broadly-based portfolio will deliver a broadly-based return from a set of assets that are to a reasonable degree independently correlated with each other.
In other words, the factors influencing the return from (say) gilts are largely independent from the factors influencing the return from foreign stocks, property, and UK equities.
Does it work?
For proof, look no further than David Swensen himself, the investment manager at American university Yale, in charge of its enormous endowment fund. By carefully following the principles of asset allocation, Swensen has delivered an average return of 16% a year -- for over 20 years.
That's some going. His formula? A mix of American shares, shares in other developed economies, emerging markets, property, and fixed-income corporate bonds and government bonds (or gilts, as we call them in the UK).
But the typical investor seeking to emulate Mr Swensen's rate of return here in the UK faces some practical difficulties. Their house, for instance, probably represents a bet on property that's quite big enough, thank you.
Foreign shares, too, turn out to have risks and drawbacks not applicable to UK investments, even if they are increasingly easy to buy. Those returns -- not to mention those incomes streams -- are potentially subject to adverse currency movements, for instance. And the taxation treatment of foreign-earned income can be tricky, too -- even when double taxation treaties exist.
Fixed-income investments, too, have drawbacks. While there's nothing especially difficult in terms of individual investors buying corporate bonds or gilts, in practice many investors prefer to do so through specialist funds. The downside? They then have to hand over to the fund manager a proportion of the return.
NS&I certificates
Hence the attraction of NS&I's savings certificates -- especially those that are inflation-linked. True, the rate of return isn't enormous -- 1% or so -- but it is a return that's additional to the applicable rate of inflation, as measured by the Retail Prices Index.
Easy-to-buy (at Post Offices, via call centres or over the Internet), and available in small quantities (£500), each "issue" of certificates offers government-backed inflation-proof returns on sums up to £15,000. Want to invest over £15,000? No problem, wait for the next issue to be released, and buy a chunk of those, as well.
In short, the appeal was obvious. A known, predictable, assured, inflation-proof real return -- as well as total security, as your money is being lent to the government.
And, best of all, perhaps, you're handily doing something to help your asset allocation objectives. Fixed income? A tick in the box, in other words.
Goodbye, good buy
Not surprisingly, NS&I index-linked certificates have proved popular. To judge from our discussion boards, a good number of Fools have some tucked away -- especially those of them nearing (or at) retirement.
So the concern was obvious when -- just yesterday -- the government pulled the plug.
In a terse press release, NS&I announced that its savings certificates (both Fixed Interest Savings Certificates and Index–linked Savings Certificates, also known as Inflation‑Beating Savings) were being withdrawn from general sale. What's more, the interest rates paid on some other products was also being cut.
Why? Because the products were too popular. NS&I has a funding target set for it be the government, explained the savings institution's chief executive Jane Platt, and such was the inflow of savers' cash that the target was going to be breached unless the products were withdrawn.
"We've seen significant amounts of money invested into these products over recent months and so we've taken the difficult decision to withdraw Savings Certificates from general sale and reduce the interest rates paid on our Direct Saver and Income Bonds. This is designed to ensure that we do not exceed the upper end of our Net Financing target range.
"The volume of sales over the past few months is such that our forecasts show we were at risk of exceeding the top end of the range, so we needed to take action to reduce sales."
What next?
There was some initial confusion as to whether investors would still be able to 'roll over' their certificates into another index-linked investment on maturity.
The answer: they can -- it's 'new money' investments that are no longer permissible.
"On maturity, existing Savings Certificate customers can continue to rollover their investment into the same Issue they currently hold. They can also reinvest into any of the Savings Certificate terms and Issues -– either the 3 or 5 year Issue of Index‑linked Savings Certificates or the 2 or 5 year Issue of Fixed Interest Savings Certificates -– regardless of which Savings Certificate they currently hold."
Should investors be concerned? Well, yes. At a stroke, an investment offering several quite clear attractions has been eliminated from the market.
On the other hand, I doubt that it's gone forever: index-linked certificates will return.
But by then, of course, many of the economic uncertainties that make them so attractive today will have been resolved. Deflation -- or high inflation? Continued growth, or a double-dip? A derisory bank rate of 0.5% or so, or the resumption of returns ten times higher?
So index-linked certificates will be back -- but to a very different economy, I suspect.
More from Malcolm Wheatley:
