Individual savings accounts (ISAs) are a great way to save or invest for the future. Every UK adult gets an annual ISA allowance of £20,000 that they can invest and enjoy tax-free returns. While many people prefer the safety and security of cash savings, could investing in the stock market through a stocks and shares ISA offer much better returns?
New research from financial comparison website Moneyfacts seems to suggest so. Here’s the lowdown.
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Stocks and shares ISA vs cash ISA: what were the average returns from each last year?
According to research from Moneyfacts, the average stocks and shares ISA returned 6.92% between February 2021 and February 2022. Meanwhile, the average cash ISA returned just 0.51% over the same period. That’s the lowest one-year return for a cash ISA since Moneyfacts began keeping records.
In a nutshell, investors who put their money in a stocks and shares ISA in the past year saw it earn 13 times more, on average, than those who put it in a cash ISA.
However, last year’s average performance was much lower than that of the previous year. Between March 2020 and March 2021, stocks and shares ISAs returned 13.55%, on average, while cash ISAs returned 0.63%.
The analysis by Moneyfacts further revealed that the commodities and natural resources sector was the best-performing ISA sector last year, returning 27.69% on average. Conversely, the worst-performing sector was China/Greater China, which dropped by 21.98%.
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Which ISA is better for you?
Despite a stocks and shares ISA having the potential to deliver much higher returns than a cash ISA, Rachel Springall, finance expert at Moneyfacts, notes that most people still choose the latter.
In the 2019/2020 tax year, Brits opened 13 million adult ISAs and contributed approximately £7 billion to them. Around 75% of the deposits to these accounts were in cash.
It’s understandable that so many people would prefer cash ISAs over investment ISAs. Cash is less risky, plus you can get quick access to your funds if and when you need them.
But while money in a cash ISA may appear risk free, it could be losing value in real terms if the interest rate you get does not keep up with inflation.
In the current climate of low interest rates and rising inflation, savers should consider putting at least some of their money into a stocks and shares ISA.
Although past performance is not an indicator of future results, history shows that stocks and shares ISAs can not only help you keep pace with inflation but can also offer considerably higher returns over time.
If you are interested in learning more, check out the Motley Fool’s list of top-rated stocks and shares ISAs in the UK.
What else do you need to know about investing in a stocks and shares ISA?
Before you invest in a stocks and shares ISA, there are a few things to be aware of.
One is that the potential for better returns with a stocks and shares ISA comes with greater risks. Because your money is essentially invested in the stock market, which can be volatile, its value will fluctuate depending on how the market is doing. If the market underperforms, there’s a chance that you could get back less than you put in.
That said, the stock market has a strong upward bias over the long term. The longer you stay invested, the more time you have to make back any losses you might incur.
Indeed, a stocks and shares ISA may be more appropriate for your long-term and medium-term goals. That means goals with a timeline of five or more years. If you’ll need your money in the next two to three years, a cash ISA may be a better option for you.
Carefully consider your individual needs and circumstances to determine the right choice for you. If you’re still having trouble making a decision, you might want to consider seeking professional financial advice.
