Money Matters: Lower Risk but Better Returns
Updated: Feb 5, 2020
In my previous article in this series I set out why I thought that having cash in an instant bank or building society savings account, and especially in a cash ISA, was not a good plan for anything other than short term or rainy day savings. I have also said that there are many, many different ways to save and invest but as a general rule the more risk that you are prepared to accept the better the return will be. How much risk you are prepared to accept should be linked to what you want the money for, what are your time horizons, and of course you as a person and your outlook on life.
As we started looking at very low risk – but very low return, or even a negative real return – deposit accounts I wanted to keep the series logical by gradually working up the risk / reward ratio and, by happy coincidence, as we move along that scale the options tend to become more complicated. So today we will start by looking at National Savings and more specifically Premium Savings Bonds.
Any ‘bond’ is a loan to the government or company that issues them but depending upon the issuer and the terms of the bond the risks can vary quite considerably. The UK government issues a whole range of different bonds under its National Savings brand and as the UK has a very good credit rating these are all considered to be extremely safe. But I would suggest that the one that is normally of most interest to younger savers is the Premium Bond.
Premium Bonds are 100% backed by the UK government and each £1 invested gets a number which is entered into a random prize draw every month. The prize pot is presently 1.4% per annum of the total amount of the fund and this amount is paid out to winners each month and all prizes are tax free. As I explained last week, 1.4% per annum is better than the vast majority of deposit accounts, and the bonds can be sold instantly at any time and so they are as liquid as a deposit account.
But what makes Premium Bonds potentially a much better investment than a deposit account, and also much more fun, is the prize structure. The amount paid out every month is divided into prizes ranging in size from £25 to £1m and at present the odds of winning a prize are 24,500 to 1, but remember that this is for each and every number, so if you are lucky enough to have £24,500 saved in this way then statistically you should win a prize every month and who knows just how large that prize might be? But at this level even if you just win £25 each month then it is still better than a deposit account because you will be earning 1.2% pa tax free (the difference between 1.4% and 1.2% going towards the bigger prizes) and still have the chance of that large prize. And if you remember my first article in the Money Matters! series where I explained the power of compounding then any winnings can be automatically reinvested to increase your chances even further.
So Premium Bonds are, if anything, a lower risk than a normal deposit account and with a marginally better return but with the potential for a much better return, thus making them a little unusual in the risk / reward balance. It is for this reason that I feel they are well worth looking at to see if they suit your needs.
Next time we will move further along the risk reward path and see possible ways to make our savings work even harder for us.
Kevin R Smith, Kevin R Smith, CEO at BOOM & Partners is an entrepreneur and a business and finance consultant with over 35 years’ experience in helping entrepreneurs and directors to grow their businesses. He is a Mentor at the UK's largest Entrepreneur Accelerator and has broad experience in all sectors, and has particular strengths in Women in Business, and Fintech, and partners business owners on their journeys. Nothing in the above article is intended as a recommendation but simply his opinion on what readers should be thinking about.