Investors can expect their investments to grow at a rate of 5% a year, according to the Financial Conduct Authority. However ‘real’ returns will be lower once inflation is taken into account.
Disclosure rules insist providers of investment products, such as individual savings accounts (Isas) and pensions, provide investors with an indication of how much they can expect their savings to grow.
The projection rates used by firms are currently being debated in a consultation paper from the regulator. However, it believes that the current ‘intermediate’ rate of 5% should not be changed, nor should the higher and lower ‘flanking’ rates – currently 3% above and below the intermediate rate (so 8% and 2% respectively). These give investors an idea of how their savings will be impacted if their investments perform better or worse than anticipated.
The figure of 5% assumes that savings are invested for a period of 10 to 15 years and are held in tax advantaged products such as Isas and pensions. For savings held outside a tax efficient wrapper the intermediate rate is reduced by 0.5% to 4.5%.
It also assumes that investments are held in a balanced portfolio made up of:
- 60% equities
- 20% gilts
- 10% corporate bonds
- 7% property
- 3% cash and money market returns
In addition, investment firms need to provide an indication of projected rates of growth in ‘real terms’ that is, once the erosive powers of inflation are taken into account.
To make these assumptions as accurate as possible the FCA has proposed basing calculations on the Consumer Prices Index, instead of the Retail Prices Index, as it is now regarded as a better measure of inflation. This will see inflation assumptions reduced from 2.5% to 2%. Firms would only be able to carry on using RPI if benefits or charges are directly linked to it.
For pension products, inflation assumptions are linked to earnings and here the FCA would like to see this reduced from a current rate of 4% to 3.5%.
These considerations will reduce the real return enjoyed by investors.
‘Important message for investors fearful of committing savings to stock market’
Commenting on the consultation, Tom McPhail, head of policy at Hargreaves Lansdown says: “In spite of all the economic and political fluctuations and uncertainties we have experienced in recent years, the FCA is still comfortable with the view that an investor holding a typical mixed portfolio predominantly invested in equities, can expect to enjoy a real return (above inflation) of around 3% a year. For any investor fearful of committing their savings to the investment markets, this is an important message: if you want to make your money grow over the long term, take advantage of the tax breaks on offer and invest in the stock market; holding your money in cash is fine for the short term but over time it is likely to be eroded by inflation.”