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Premium Bonds and cash savings will make you poorer! I’d invest in the FTSE 250 instead

Premium Bonds and cash savings accounts are a natural place for many people to deposit their excess cash. They provide security, as well as no risk of loss. They also offer a large amount of flexibility so that you can access your savings whenever you may require.

The problem with Premium Bonds and cash savings, though, is that their returns are relatively low. As such, holding them over the long run can be detrimental to your financial future – especially since they may fail to beat inflation over a prolonged period.

Therefore, now may be the right time to instead invest in FTSE 250 shares. The index could offer an increasingly appealing outlook for long-term investors.

Return prospects

With Premium Bonds offering an annual prize rate of 1.4% and the best interest rates on cash savings accounts being around that level, the prospects of either product beating inflation over the long run are modest.

A higher rate of inflation has often prompted an interest rate rise in the past. This means that interest rates, as well as the annual prize rate, may continue to lag inflation over the long run. The end result of this could be reduced spending power for savers and Premium Bond holders.

The FTSE 250, meanwhile, has a strong track record of delivering high-single-digit annualised total returns. For an investor who has a long-term horizon, and who will not require access to their capital in the meantime, investing in a diverse range of mid-cap shares could be a significantly better idea.

To illustrate this, an investment in FTSE 250 shares could take around nine years to double (assuming an 8% annualised return). The same investment in cash savings or in Premium Bonds would take over 50 years to double (assuming a 1.4% interest/annual prize rate).

Investment opportunity

At the present time, the near-term outlook for the FTSE 250 appears to be highly uncertain. The index’s focus on the UK means that the outcome of Brexit could have a significant impact on its performance in the coming months. Investors may, therefore, determine that now is a good time to avoid buying shares in case they fall in the short run.

In many cases, though, FTSE 250 shares currently trade on low valuations that factor in the near-term risks they face. This could mean that now is a good time to buy them, since they may offer a wide margin of safety. In the long run, this can equate to relatively high returns.

As such, while there may be paper losses ahead for UK-focused investors in the short run, the long-term investing prospects of the FTSE 250 seem to be high. The index could offer significantly higher returns than Premium Bonds and cash savings in the long run.

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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.