Living within your means and saving money each month is always a great idea. In the long run, it can help to improve your financial position, and may even mean retirement comes along sooner than it otherwise would.
However, with interest rates being relatively low at the present time, the return that is offered by cash savings is somewhat disappointing when compared to the income prospects of other assets. As such, it may be possible to generate a larger nest egg through simply investing savings elsewhere.
Here’s why dividend stocks could be worth buying right now, and why cash savings could continue to offer a disappointing rate of return.
Interest rate cycle
The global economy is currently facing a period of significant uncertainty. In the US, recent economic data has been somewhat disappointing, with retail sales and jobs growth in particular suggesting that its economic performance may be coming under pressure.
As such, it is becoming increasingly likely that the Federal Reserve will cut interest rates by the end of the year. With global economic growth expected to slow to 2.6% in 2019, it would be unsurprising for other central banks to maintain interest rates at current levels, or even adopt an increasingly dovish monetary policy.
The result of this looks set to be lower returns for savers, while stocks could gain a boost. Dividend stocks may become increasingly appealing versus other income-producing assets, which may lead to rising demand from investors. This could mean that they produce even higher total returns relative to cash over the medium term.
Of course, interest rates are likely to normalise over the long run. This could mean that savers enjoy a higher income return relative to that which is available today.
However, interest rate rises are often prompted by higher inflation. This could mean that the return on cash savings may lack appeal on an inflation-adjusted basis, with there even being the possibility of a negative real return. And since inflationary concerns may not be viewed as an immediate threat in the short run, a rapidly-rising interest rate may be a distant prospect.
By contrast, it is possible to build a portfolio of stocks that offer inflation-beating returns today, as well as the prospect of dividend growth in future. This could mean that they continue to outperform cash savings over the long run.
While investing in dividend stocks means there is scope for capital loss, which is not a threat facing savers, their risk/reward ratio appears to be far more enticing. With the world’s major indices having long track records of successful recoveries from bear markets, long-term investors who are able to adopt a buy-and-hold strategy may be able to generate high returns.
By contrast, the outlook for savers appears to be somewhat downbeat. As such, investing any excess capital from living within your means, rather than saving it, seems to be a worthwhile move.
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