With normal savings accounts offering a paltry return, it's no wonder the stock market has caught the eye of savers.
While the interest rates available on mainstream savings accounts recently hit a two-year high, that sadly doesn’t mean that they are any good. With an average easy access rate of 0.89% and cash ISA rate of 2.54%, it’s perhaps unsurprising that savers as a whole are thoroughly underwhelmed by their options.
And that’s a big reason that savers are turning their backs on such accounts, and looking instead to the stock market for a decent return on their cash.
An eleven-year high
According to figures from the Investment Management Association, the fund managers’ trade body, net sales of stocks and shares ISAs totalled £528m in May, the highest for any month outside the usual ISA season since 2000, a whopping eleven years ago.
So why are stocks and shares ISAs so popular?
Finding a return
I think it's mainly because investing in stocks and shares over the long-term is a pretty good bet. Over ten years or longer, stocks and shares tend to perform better than cash and government bonds, and some funds have delivered a stunning return in recent years - especially ones that have invested in emerging markets such as China and India.
Here's an example: if you had invested the full cash ISA allowance every year into the Fidelity South East Asia fund since 1999, you would have earned a 305% return! Even if you'd stayed closer to home and gone for the Fidelity UK Aggressive fund, you'd have got a very decent 122% return.
A sceptic would now say: but if you had bought shares in January 2000 and then just held them till now, the performance would have been much poorer. And that's a fair comment.
But what my Fidelity examples show is that if you drip feed your money into the stock market gradually, you'll be more likely to do well. In other words, if you invest in the stock market once a year, you'll end up buying shares when they're cheap - i.e 2003 and 2009 - as well as when they're expensive - i.e 2000.
So what do you need to know about stocks and shares ISAs, and how do you go about picking one?
How you can save
Currently, you can save £10,680 in an ISA. You are only allowed to save up to half of this sum in a cash ISA (£5,340), which is the extent of most people’s ISA activity.
However, you can save the whole lot in a stocks and shares ISA, or mix and match the two so that you have some of your savings in each.
Different shapes and sizes
There are all sorts of different stocks and shares ISAs, so it’s important to know exactly what it is that you’re applying for.
There are ISAs where your money is invested into a specific fund with a fund manager making decisions about where the fund’s cash should be invested. So the performance of your savings rests entirely on the decisions that the fund manager makes.
Or there are ISAs where your money is invested into an index tracker fund. With index trackers, the fund invests in all of the firms that make up a particular index, and there are no expensive fund managers picking stocks. As a result, your money should move in line with the index itself. If the index rises by 5%, your fund should rise by roughly 5% too.
If you're looking for a fund that tracks the UK stock market, consider the Virgin Money FTSE All-Share tracker. Your money will be invested across the 600 plus companies that make up the FTSE All-Share index. That said, the Virgin funds charges a higher annual fee than many rival UK tracker funds.
You could also invest in funds that track overseas stock markets. For example, the Legal & General US Index-tracking ISA follows the FTSE World USA Index.
And then there are self-select stocks and shares ISAs, where you decide where the money is invested yourself. These tend to be available from stockbrokers and sharedealing firms mainly, though high street names like Halifax also offer them. Personally I’d steer clear of these unless you really know your investing onions.
Your attitude to risk
If you’re going to use a stocks and shares ISA, then your attitude towards the cash you set aside each month should be different to your attitude towards your normal savings.
I put a few pounds aside each month into an easy access savings account, as a savings safety net. I know that I’m not getting a great return on the money in there, but it’s there if I need to get my hands on it quickly - maybe for a new boiler or washing machine. It’s money that I need to keep within arm’s distance.
My attitude towards the money I put into my stocks and shares ISA is different. It’s money that, effectively, I can afford to lose (though obviously I’d rather not lose it!). With investing, the value of your investment can go down just as easily as it can go up. So you need to be happy to ride the storms, realising that if you are prepared to leave that money in the stock market for the long term, there’s a really good chance you’ll end up with a respectable return.
The money in my stocks and shares ISA is money for the long term, money that I may use to top up my pension, or pay for my son’s University fees, in twenty or thirty years’ time. It’s not money I’m planning on using for decades.
If you’re planning on building up a nest egg, a stack of money that you are planning on spending within the next couple of years – a deposit for a house perhaps – then there are probably better homes for your money. Sure, in five years you may have increased your money to the extent that the deposit is all sorted. But equally, you may find that your cash has halved. Stocks and shares are for the long term.