Return on investments has fallen considerably in the last 18-24 months, and with many anticipating further central rate cuts in the coming months, consumers must decide whether to stick or twist.
The market for term deposits currently offers relatively little incentive for long-term products. On the face of it, the rates of return show little incremental benefit from locking money away for three years rather than for one.
In fact, the best deals on the market are short-term deposits from UBank (at 6.11%). The only savings products that compete with this are long-term deposits of 5 or 6 years that require a sizeable minimum investment.
This unusual pattern proffers clear expectations that the Reserve Bank will cut the central interest rates at least once in the first half of 2012. How the current returns on long-term savings products will look in 12 months depends on the extent of the central rate deterioration in 2012 and how long it lasts.
In the UK, where the central base rate has been held at 0.5% since March 2009, rates of 6% are practically unreachable. Australian banks’ ostensive predictions expressed through their returns demonstrate a measure of caution about this long-term uncertainty.
Risk Assessment
The reality is that the rate of returns gained through term deposits not so long ago now incurs a level of risk. Is it worth taking?
The riskier options of stocks, shares and diversified bonds must invariably carry some appeal. Most of these require significant minimum investment, but a few require no more than the minimum required for a 5-year term deposit, and the potential dividends exceed 10% on a single-year investment.
Corporate bonds will appeal to investors with considerable capital to invest. Unlike smaller, managed funds, coroporate bonds cut out fees and interference from intermediaries. Popular inflation-linked bonds that traditionally pay between 7% and 8% are often classified as senior debt, which puts bondholders at a lower level of risk.
The main problems are twofold. Firstly, not everyone has the entry capital required to exploit higher returns, risk-based or otherwise. Secondly, it’s a difficult time to invite investors to assess risk, especially because the performance of Australian shares is not as structurally secure as it has been in the past. Standard savings accounts and term deposits have the advantage of full protection by the government’s deposit guarantee whereas other investment types are not.
The government has finally taken measures to reduce the tax inequality that has previously given priority to shares over secure savings. Returns on standard savings accounts are taxed as income, while the capital gains on stocks and shares are eligible for significant discounts.
If the bill is passed, the tax on interest from savings accounts and term deposits will halve from July – though the amount is likely to be limited.
Term Deposits: Difficult Choices
For consumers looking to protect a reasonable level of interest in the medium term through deposits, banks are imposing a difficult choice.
The Eurozone crisis remains unresolved; banks are under pressure from the International Monetary Fund to strengthen their capital levels; and the Federal Bank is likely to lower the central interest rates over the coming months. These factors all portend bad news for savings rates in 2012.
Despite deliberate incentives for investors not to look beyond the next 6 months, some measure of longer term protection against an impending slump may not be the worst move in this financial climate. Visit Which4U's savings account listings today. It's unlikely there will be a lot of time to decide.
Keith McDonald
Which4U Editor
