For years, I’ve watched UK interest rates hover between 0% and 1%. With returns that low, I have funnelled most of my savings into a Stocks and Shares ISA rather than a Cash ISA.
But I might have changed my mind last Thursday, as the Bank of England raised rates yet again to 4.5%. I can now receive more from savings accounts than at any point since 2008.
Do these higher returns now mean a Cash ISA is a better place to build wealth than a Stocks and Shares ISA? Here’s my answer to that question, along with what I plan to do about the new rates.
The problem with banks
The most important thing to bear in mind here is that I probably won’t get the full 4.5% from a Cash ISA.
The reason? Banks take a slice for themselves. They don’t typically pass on the full amount to customers.
In fact, I received an email this week from a well-known UK high-street bank about the new rates. It has generously nudged the return in my Cash ISA up to 1.25%.
To be fair, most aren’t quite that bad. The highest returns I can find at the moment are 3%-3.5% for an easy-access account, and 4%-4.3% for a fixed-rate account. With that in mind, how does it compare to a Stocks and Shares ISA?
Higher potential return
An important difference with the Stocks and Shares ISA is the risk. My return is tied to the success of the company I choose to invest in. Most firms have bad years or decades, and some even go bankrupt.
That risk is paired with a much higher potential return than a Cash ISA though, even at the new rates.
Historical average returns including all dividends and growth are around 8%-10% for large UK and US companies.
And investing in individual companies can increase that further. To take one example, British American Tobacco has returned around 13.5% since 1984.
What I’m doing
So which account is better? Well, the Cash ISA offers a steady, predictable return.
And because I can now get up to 4% or so, I opened an account and deposited a small sum of cash – an emergency fund, some call it – that I’d like easy access to.
But most of my savings will still get thrown into a Stocks and Shares ISA. This back-of-the-envelope calculation shows why.
If I save £100 a month for 30 years in a 4% Cash ISA then I’d have £68,527. But the same £100 a month for 30 years at a 10% return in a Stocks and Shares ISA becomes £206,284.
To me, that’s a staggering difference. And returns have the potential to get even higher.
Numero uno
My preferred strategy is to make careful, well-researched investments that might accelerate that wealth-building. If I can choose companies that could bump my average return up to 12%? The £100 a month over 30 years is now £305,201.
All in all, when it comes to options for building wealth, I think investing in companies in a Stocks and Shares ISA is still easily numero uno.
