Why Invest if Cash is Giving a Return?

Following the recent increase in the Bank of England base rate to 4%, you might legitimately ask why you should invest in volatile or “risky” assets when your cash is providing a return of 4%.

For this discussion, I will use a diversified portfolio of global equities as the alternative option.

The first step in any debate is to set the ground rules; let’s distinguish between the different reasons for saving money. I agree that a “safe” cash investment is the optimal place for the money you will require in the short term. However, when we discuss investing, that’s about allocating capital that will only be required in the long term.

The definition of money

In my view, the only sane definition of money is purchasing power. It is only good to the extent that it can buy more in the future than it can today. The major challenge you face is that inflation (the steady rise in prices) corrodes this purchasing power, and our investment philosophy is designed to address this.

History has taught us that cash does not provide a return greater than inflation after tax over the long term. What’s more, if the interest is not re-invested, your capital base does not grow either. One benefit of cash is the very low volatility, but this comes at a very big trade-off in long-term purchasing power.

The alternative is a diversified investment in the great companies of the world, global equities. In this scenario, you’re not a lender to banks or governments but instead the owner of real, profit-producing, productive companies. These profits are either re-invested into attractive projects or distributed to shareholders as dividends. This dividend is often lower than the return on cash, but this is only one element of your return.

The engine of your purchasing power

The second element of your return as an equity investor is the growth in the capital value of your shares. Historically, share prices have grown as corporate profits have grown. Corporate profits rise due to innovation and the ability to pass on inflationary increases to consumers. This means that, over time, dividends also increase. The net result is long-term returns which beat both inflation and the returns on cash. This is the engine that helps you preserve your money's long-term purchasing power, which, as mentioned, is the only sensible definition of money.

There is a cost for earning this return: in exchange for better long-term returns, you must endure short-term declines in the value of your investments. These are always temporary, and we do not know when they will occur. The only way to earn full returns as an equity investor is to stay invested at all times. That’s where I come in; to ensure you stick with your portfolio through all market cycles.

I believe a portfolio allocated to global equities is in your best interest. For what it’s worth, all of my family’s long-term capital is invested in global equities.