Interest Rate Grumbles

Interest Rate Grumbles

If there’s one constant about interest rates, it’s no matter where they sit someone will inevitably be grumbling about them. There’s always a belief from some people that they’re entitled to money at a cheaper rate or that they should be compensated better for having money stashed away.

When interest rates are high, those who’ve borrowed are screaming, presumably because they never factored the possible high water mark into their plans.

When interest rates are low, those who are expecting cash to provide a reliable and safe income are screaming, presumably because they never factored the possible low water mark into their plans.

Though it seems there’s a point where borrowers eventually quieten down, presumably finally comfortable with the lower repayments for the levels of debt they’ve snorfled upon.

For those expecting an income from their savings it seems those cries never go away.

As Fairfax journalist Ross Gittins reminded readers this week, no matter the returns on offer, those who’ve chosen to use cash as their sole investment option have always grumbled it’s not providing the returns they’d like.

Gittins recalled the inflation of 1970s and 1980s, the cost of living was rising, and like today, retirees were still frustrated and grumbling that the returns on their cash weren’t as high as they’d like.

Sounds familiar, doesn’t it? And it once again highlights that cash has never been the safe and secure provider of income that some investors perceive it to be.

However, when interest rates are higher there is still the argument that cash provides some sort of return, however minimal. That argument begins to fail though as interest rates push closer to zero and the curse of inflation truly drives returns into negative territory, as this chart from the Reserve Bank shows.

Investment Adviser Orana Region

The chart shows the current RBA cash rate in red against the real cash rate in blue. The real cash rate is the current RBA cash rate minus current inflation levels. Right now anyone in a bank cash product at 2% or below (and there are many out there) is very clearly losing spending power. Worse, anyone who is paying tax and saving over investing is going further backwards.

In comparison to other asset classes this year, cash remains slightly ahead of Australian shares, but behind against Australian fixed interest, Australian listed property, International shares and International fixed interest.

And that under performance of cash against the other five asset classes has been a trend over the last 15 years. Since 2001 cash has offered no better than the third highest return in any given year, while every other asset class has produced the highest return at least once.

Which raises the importance of diversification when looking for growth and income. A mix of asset classes to lower the possibility of gyrations is the best way to lower risk and capture higher returns. The solitary cash option will be rewarded with a lack of gyrations which may feel safe, but it provides no protection against inflation or tax.

If you’re expecting to live off your investments and want the possibility of your money outpacing inflation, the asset classes that have been shown to offer growth and income have to be built into your investment strategy.

Otherwise keep grumbling.

This represents general information only. Before making any financial or investment decisions, we recommend you consult a financial planner to take into account your personal investment objectives, financial situation and individual needs.