With cash earning 5%, why risk money on the stock market?

Cash savers are benefiting from the highest returns in almost two decades, with some popular accounts like cash ISAs currently paying over 5%. The rise in returns has been rapid, with rates today many times higher than a year ago. Unsurprisingly savers are committing more to cash ISAs than at any point in the past five years¹.

Cash or equities: what are the chances of beating inflation?

The certainty offered by cash lies only in its nominal value. £100 today will still be £100 in future years. There is no certainty its spending power will hold up, however. Low inflation will see the money retain its spending power to some degree, but high inflation will erode it quickly.

Time is the critical factor. Over short periods, cash is likely to fare better against inflation. Over long periods, cash fares worse, even where inflation is relatively low.

Chart 1

The results are stark. Chart 1 shows that over very short periods – three months or less – there has not been much difference in the likelihood of cash or shares beating inflation. But for longer periods the gap widens conclusively.

• The likelihood of cash savings beating inflation has been about 60:40 for the majority of all timeframes.
• The likelihood of stock market investments beating inflation has reached 100% where the investments are held for 20 years.

In other words, for every 20-year timeframe in the past 96 years, equities delivered inflation-beating returns.

So while stock market investments may be risky in the short run, when viewed against inflation they have offered far more certainty in the long run.

The stock market has delivered strong long-term returns through very different conditions

The recent era of ultra-low interest rates, from which we’re now emerging, has meant that cash has been unattractive for investors. That is despite the fact that inflation until recently has been low.

Chart 2

In the past five, ten and 20 years, cash savings have failed to keep up with price rises and so depositors would be worse off. Over very long periods – during which inflation and interest rates have gone through both highs and lows – cash has retained its spending power, but only just.

By contrast, stock market investments have delivered inflation-beating returns over all periods highlighted in Chart 2.

So it’s a no-brainer: stock market investments are a better bet for long-term real returns?

There are lots of reasons to hold cash, and savers’ individual timeframes will differ. The question of ‘should I invest in cash?’ is not straightforward, and for the longer-term saver all the data points to investing being the best option for many.

While long-term historic data strongly suggests stock market investments stand a better chance of beating inflation than other investments, they are also volatile. So investors who opt for stock markets over cash need to be prepared for a bumpy ride.

Chart 3

• In approximately half of the past 50 years markets fell by at least 10%.
• In a quarter of the past 50 years markets fell by at least 20%.

In conclusion, different risks attach to both cash and stocks and shares. Cash is far from a risk-free asset: even at today’s best available savings rates, deposits are likely to lose real value. And, as our data shows, cash can deliver real losses over longer periods too, including the past two decades. But shares also carry risk, especially when held for shorter periods.

¹ Source: Bank of England, two-year fixed rate cash ISA, change from 30 April 2022 (1.19%) to 30 April 2023 (4.12%). ISA deposits from BoE Money & Credit tables. Data issued June 2023.