Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.
FIVE months ago I shifted money that had been sitting in cash savings accounts into Premium Bonds.
Like many others, I could see the level of interest I was getting on my cash lagging behind inflation and reasoned that I didn’t have much to lose by taking a chance on winning some Premium Bond prizes instead. I wrote about the decision at the time.
I hadn’t really considered Premium Bonds as a serious option for my money before then. In truth, they struck me as more of a novelty than a sensible place to hold my savings.
Issued by National Savings & Investments (NS&I), the state-backed savings provider, one Premium Bond can be bought for £1. Bonds are then entered into a monthly prize draw with prizes ranging from £25 to £1million. The minimum you can buy is £25 worth of bonds, and the maximum you can hold is £50,000 worth.
It’s worth saying what money I’m talking about here. This is the bulk of my cash savings - I also have money that I invest which is separate. There are very good reasons to hold a healthy amount of money in cash even if you are ready and willing to invest, which I explain a bit more below. This is the money I hold for genuine emergencies like a loss of income. It can tide me over if needed and means I don’t have to sell investments in a pinch. It needs to be readily available to me and secured against losing its cash value so I didn’t consider investments, where there is the risk of loss, as an alternative home for it.
To understand whether the gamble was worth taking, I needed to gauge how the potential return from Premium Bonds stacked up against the interest I could get from a savings account. My savings back then had been in an account paying just 0.5%. That was competitive at the time, although the best rates now on an equivalent account have crept up to about 0.65%. The interest could be lowered by the bank, but was otherwise guaranteed.
Working out how much Premium Bonds are likely to pay in prizes is a much less certain exercise. The potential return from Premium Bonds depends solely on you winning prizes. The NS&I website explains exactly the prizes on offer but it also publishes the ‘annual prize fund rate’ - a figure designed to show the average return of someone who holds Premium Bonds. The annual prize fund figure is currently 1%.
That figure should be treated with caution. It is certainly not equivalent to an interest rate and represents only the mean average return from prizes, so included in that average are the people winning £1million prizes which skews the figure. In fact, the vast majority of Premium Bond holders win nothing. However, the prize system means that those who hold higher numbers of Premium Bonds are more likely to win, and more likely to achieve the 1% annual prize fund rate.
If you really want to, you can read more about the odds of winning at the Moneysavingexpert.com website, which has heroically crunched the numbers. But to cut a long and complicated story short, those holding around £20,000 in Premium Bonds can realistically hope to achieve the 1% rate if they enjoy the average level of luck. This is a prize draw, after all, so you could own the maximum £50,000 that’s allowed and still lose if your luck is rotten.
Based on those odds, I knew the sums I could put into Premium Bonds gave me a fair chance of getting a 1% return - and let’s remember that I only needed 0.5% to match what I was getting in my savings account. I was willing to take the risk.
The first draw I was entered into was in May - your money has to be held in Premium Bonds for a full calendar month before they are included in the draw - and I was delighted to receive a text message telling me I had won a prize. In fact, I had won three £25 prizes. Two more followed in both June and August - July has been my only prize-less month.
It all means that I’ve managed to win as much in prizes in five months as I was expecting in interest over a year from my old savings account. The gamble paid off! Anything I win for the rest of the year is a bonus and there is still a (very, very tiny) chance that I could win a much bigger prize.
The only sting in the tail is that, with inflation running at 2% but expected to accelerate this year, I probably won’t be able to keep pace even if my winning streak continues. I can, at least, dream of bagging a big prize in the meantime.
Cash - a valuable friend to investments
Even if you are sold on the idea of investing, it’s still important to understand the role that cash savings play in your personal finances - and why they can improve your prospects as an investor.
Having some savings held in cash means that you have a safety fund in an emergency. Experts often recommend holding between three and six months’ worth of income in cash for a rainy day.
Holding that much in low-paying savings accounts can sometimes feel painful if you are watching the value of investments rise, knowing that you had money on the side-lines that could be also making those gains. But it is still important to maintain your cash reserve.
If you know that you’ll have money in an emergency, you can invest with greater confidence that you won’t have to sell your investments because you’re short of money. Being a forced seller of investments is to be avoided because it means you have far less ability to time your sales in a way that maximises gains.
Cash is a way to reduce that risk.
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to a Fidelity adviser or an authorised financial adviser of your choice.Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to a Fidelity adviser or an authorised financial adviser of your choice.
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