Saving in a Cash ISA has continued to be a popular means of building wealth, despite interest rates being at record lows for much of the past decade. By contrast, investing in FTSE 100 shares has failed to significantly gain in popularity, despite the strong returns recorded by the index over the same time period.
Looking ahead, an investment in the FTSE 100 could have a much more positive impact on your retirement plans than saving in a Cash ISA. Therefore, now could be the right time to build a diverse portfolio of stocks that reduces your risk and provides significant return potential in the long run.
The FTSE 100 may have experienced a decade-long bull market, but its long-term performance track record is also highly attractive. Since it was formed in January 1984, the index has recorded an annualised total return of around 9%.
It could go on to produce similar, or even higher, returns in the coming years owing to its attractive valuation at the present time. Many of its members currently have low valuations as a result of risks such as the spread of coronavirus, as well as geopolitical uncertainty in the US and Europe. Therefore, buying a range of stocks today could produce relatively high returns in the long run.
A Cash ISA, meanwhile, may struggle to deliver improving returns in the coming years. Interest rates may remain low for a number of years due to ongoing economic risks facing the UK, as well as a low rate of inflation. Therefore, holding cash could prove to be a disappointing move in terms of its return potential, unlikely to have a significant positive impact on your retirement plans.
One of the main advantages of a Cash ISA compared to FTSE 100 shares is its lower risks. As long as you hold less than £85,000 at a specific banking group, your capital is covered under a compensation scheme.
The same, of course, cannot be said about FTSE 100 shares. The risk of loss can be high – especially during periods of economic turbulence, and it’s not uncommon for investors to experience paper losses on their investments.
However, the risks of investing in shares can be reduced significantly through diversification. Holding a variety of companies which operate in different geographies and sectors can limit your dependence on a specific stock, and may mean losses from one company are offset by gains made elsewhere in your portfolio.
Certainly, the risk of the wider stock market falling cannot be diversified away. But the return potential of the FTSE 100 means that, for those people who have a long time horizon until they plan to retire, buying shares could be a superior move compared to having a Cash ISA.
Peter Stephens has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.