By ADRIAN LOWCOCK 01/04/2010
A savings bond is a bank account where your money is held on deposit and you earn interest on the deposit. The growth of the investment is limited to the interest paid on the account.
Savings bonds differ from normal deposit accounts in that they have a fixed set period, usually 1, 2, 3 or 5 years, and the rate of interest is set at the start of the term. The interest earned each year is rolled up into the account instead of being paid out.
Once the money has been placed on deposit, savers are usually restricted on the number of times they can withdraw the money during the lifetime of the bond. Additionally, any early encashment is often charged with a loss of interest.
Banks and building societies offer these investments with more attractive rates of interest because they want access to secure long term deposits. So, the longer the timescale the better the rate being offered. Currently the best 5 year savings bond will offer 5% (State Bank of India) per annum compared to the best instant access accounts offering 2.65% (West Bromwich BS) per annum.
Investors need to consider several things when deciding whether they should buy a bond and how long it should be invested for:
- When will you need the money? Don’t go for the better rate, but consider when you will need the money as it will cost you more to borrow than you will get in a better savings rate.
- What are your expectations for interest rates? This is more difficult to call. No one knows what interest rates will do in 5 years time, but considering how low the Bank of England rate is now, savers can be more comfortable with getting good rates for 1 or 2 years and this gives the flexibility to reinvest again in a few years time.
- What benefits do you give up for the better interest rate? For the better return, savers do give something up; the access to their savings for a set period and the interested earned. For those savers who need an income, these products many not be suitable, plus there is also the opportunity cost of using that money to invest in other assets such as equities or paying off a mortgage.
If there is anything you wish to discuss please call one of our investment professionals on 020 7189 9999.