Safe Havens In A Choppy Financial Climate

Times are tough at the moment, so are you tempted to stash your cash under the mattress. That might seem a tempting option rather than risk banks blighted by the credit crunch or a rocky stock market.

This article was first sent to Fools as part of our 'Summer Lolly' series.

Of course, the problem with the `mattress option' is that your savings won't grow. However, there are some `safe havens' for investors in times of financial turmoil. For the rich, these may be art, wine and jewellery, while the less wealthy, like myself, can choose from savings accounts, cash ISAs, National Savings & Investments (NS&I), and government gilts, among others.

Many financial experts claim that cash is king for those seeking security as, inflation aside, it's risk-free. Regardless of what happens to the stock market or house prices, your investment is safe, although it's not exciting! But whatever else you invest in, holding some money in cash for a rainy day will always be a sensible move.

Take inflation into account

As long as you are beating inflation, you are staying ahead of the game. However, the latest retail price index (RPI) measured inflation at 4.6%, meaning higher-rate taxpayers need a return of 7.67% merely to keep pace with it. For basic-rate taxpayers the return required is a rather more attainable 5.75%.

Nevertheless, there are hefty rates around which are worth taking advantage of. For example, you can earn 10% AER for a year from Halifax's Regular Saver Account on a minimum monthly deposit of £25.

Compensation scheme cover

Make sure not to put more than £35,000 of your money with one institution. If your bank goes bust, the Financial Services Compensation Scheme (FSCS) will compensate you for up to £35,000 although the government has announced proposals to increase this to £50,000.*

Tie-up your cash for more interest

If you are prepared to tie-up your money for a period of, say, a year, you can benefit from some attractive rates of more than 7%, but normally you can't make withdrawals. For example, Kaupthing Edge is offering 7.15% on its one-year fixed-rate deposit account on a minimum of £1,000. And the Icesave Fixed Rate Savings account is paying out 7.06%

But act fast if you want to take advantage of a bumper rate, as they are fast disappearing and who knows when we might see savings rates at these levels again.

Benefit from tax-free interest

To keep your cash out of the taxman's grasp, consider cash ISAs as an ideal safe haven. Unlike a shares ISA, these accounts won't suffer from stock market volatility, you are covered by the FSCS and you can stash away up to £3,600 a year and earn tax-free interest. I always make sure to use my allowance every year -- even if only to save towards my tax bill as a freelance journalist!

The highest paying accounts are either fixed rates or require you to make regular savings. The top rate is First Direct's Regular Saver ISA at 7%, which is only available if you have a First Direct 1st account. It requires the holder to save between £25 and £300 month.

Go with the government

National Savings & Investments and gilts, both backed by the government, are another option. While you could lose your savings if the government went bust, this is highly unlikely, although it can seem possible amid the ongoing gloom!

Index-linked savings: With rising inflation now a major threat to savings, NS&I might not offer great interest rates, at 4.6% AER for its cash ISA, but it does offer Index-Linked Savings Certificates.

These offer a tax-free return that beats inflation when held for at least a year. All returns are free of income tax and capital gains tax.

The five-year and three-year issues both offer a guaranteed compound rate of RPI plus 1%. With RPI at 4.6 per cent, the current return is 5.6% which doesn't sound great until you calculate that a higher-rate taxpayer would have to earn more than 9% in an ordinary taxable bank account to beat this.

The minimum purchase is £100 and the maximum is £15,000 per issue. You have a choice of terms - currently three and five years. If you cash in your certificates within one year of purchase, no index linking or interest will be earned.

Guaranteed income bonds: Also available from NS&I, these provide a monthly income on lump sums. However, the fixed interest rate is not impressive at 4.75% and you will pay income tax.

Gilts: These are bonds issued by the government to raise money, in return for a stream of income and the promise to repay your capital at a set date in the future. You can buy them direct from its gilt auctions but most people go through a stockbroker or bank. But with yields currently around 5.2%, these are safe but dull!

*Different rules apply for some non-UK banks. Read this article  for details.