A Cash ISA isn’t a great investment at the best of times. In recent years, the best instant access interest rate you could get has been around 1.5%, or even lower. That’s been below inflation so, in real terms, a Cash ISA would actually lose you money. How does saving tax on the paltry return you do get compensate for that? Well, it simply can’t.
Right now, the Cash ISA situation is even worse, with instant access rates falling towards 1%. There’s even been speculation that interest rates could turn negative, with banks charging you for looking after your money. I don’t see things getting that bad, but what use is a 1% annual return from your investments?
The obvious rejoinder is that if you’d had your savings in a Cash ISA at the start of 2020, you’d have escaped the Covid-19 stock market crash. That much is true, certainly. And if you know how to predict the timing of the next crash then, by all means, switch to a Cash ISA just before it happens. Then switch back to shares just at the lowest point of the slump.
Of course, nobody can do that. And if you always keep your money in a Cash ISA as a precaution, you’re losing out on the much better returns that the stock market has historically provided. Long term, investing in UK shares has produced returns of 4.9% above inflation. That includes reinvesting all dividends in more shares.
If a Cash ISA is a poor long-term choice, then putting your money in one right now could be a significantly worse decision. So what is the best strategy for times like now? Let’s look at how the FTSE 100 has performed after previous crashes.
Back in early 2016, the UK was in something of a slump, with the Brexit referendum looming. The FTSE 100 hit a low in early February that year, after losing 1,600 points in the previous 12 months. Had you bailed out at that point and moved to a Cash ISA, you’d have pocketed your 1.5% or so over the next year. But you’d have missed out on a storming 24% recovery for the FTSE 100 in the following 12 months. But that’s just the rise in share prices. You’d have earned some dividend income too.
Now let’s look back further to the banking crisis of 2008. Over the course of a 12-month period to rock-bottom in March 2008, the FTSE 100 lost 40% of its value. The story is the same again, only better. Those unlucky enough to buy into a Cash ISA at the low point could only sit and watch Stocks and Shares ISA investors talking a 46% profit over the next year. Oh, and earned dividends again.
We can look back over the past century and the story is the same. Every time the FTSE 100 crashes, it comes storming back stronger. And usually relatively quickly. And over the really long term, the UK stock market has wiped the floor with any cash-based investment.
I’m not saying we’re out of the current crisis, and I do think there’s a reasonable chance we could see a double-dip FTSE 100 slump. But the evidence shows that a Stocks and Shares ISA is a much better bet than a Cash ISA. Especially when stock markets are down.
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Views expressed 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.