Premium bonds are a simple way to save money with the added appeal that you could win cash prizes to top up your savings. Although this seems a fun and exciting way to save your cash, I don’t think it’s the smartest way to put your money to work.
The odds of winning cash prizes are slim. Each £1 Premium Bond you hold has odds of 1 in 42 billion of winning £1m. Two bonds per month will win £1m, 3.3m bonds will win £25 and over 84 billion bonds will win nothing at all.
Anyone over the age of 16 can buy Premium Bonds and the maximum investment is £50k. Adults can also buy them for children and the minimum investment for anyone to get started is £25. Their simplicity and ease of getting started in saving has turned them into the UK’s biggest savings product and over one-third of UK citizens own them.
Their biggest attraction is that your savings are 100% safe because NS&I is backed by HM Treasury. But Premium Bonds put your savings at the mercy of inflation, devaluing them over time, unless you’re one of the lucky few who has winning bonds.
Stocks, on the other hand, can increase in value. The FTSE 250 has produced an average annual return of over 11% during the past 10 years and the figure is 7% for the FTSE 100. Whereas Premium Bonds boast a 1.4% annual return, that’s only an average, so as can be seen from the figures above, most bondholders will receive no percentage return at all.
Stock market returns
I think investing in the stock market is a better way to put your savings to work for you. Many shares offer the advantage of regular income, which stock investors can enjoy through dividends.
There is, of course, more risk in stock market investing than there is in buying Premium Bonds, but risk brings reward and the rewards to stock market investors are more readily achievable.
The world’s most successful investors stick with it for the long term and do so through both good times and bad. Reinvesting dividends creates compounding, which encourages your initial investment to grow at a faster rate.
Making a million
Although it may seem an unattainable dream, many investors really do become millionaires through their stock market investments.
A simple way of achieving long-term wealth is investing small regular amounts. If you invest £300 per month in a tracker, such as the Vanguard FTSE 100 ETF, which tracks the FTSE 100, at an average annual return of 4.8%, 40 years later, your total investment would be worth close to £425k.
If, however, you invest in a fund with an average annual return of 9%, over those 40 years, compounding would create almost £1.3m. Obviously the more you can afford to invest monthly, the higher your final returns.
These examples go to show that investing in stocks and shares over the long term can lead to millionaire status and it is a more achievable way of doing so than via Premium Bonds.
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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.