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Investing basics: cash investing strategies as interest rates dip

Emma Rapaport  |  24 Jun 2019Text size  Decrease  Increase  |  
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This week I got a depressing email from my bank telling me my savings rate was going down – from 2.8 per cent to 2.55 per cent for the highest variable rate, a 0.25 per cent reduction.

I know that doesn't sound like a lot, but think of it this way: Interest accrued on a savings account last month with a balance of $50,000 was $118.75. Next month it will be $106.26.

If we extend that to a year's worth of interest on a savings account with $1,000 contributed each month, that amounts to $142 annually – as determined by the compound interest calculator provided on the Australian Securities and Investments Commission website.

Just think what you can do with $142. With that same amount you can buy:

  • 57 off-peak train fares
  • 40 cups of barista coffee
  • Two backrow concert tickets
  • One cheap return flight from Sydney to Melbourne

And for people who rely on interest earned from savings accounts to supplement their income, this change can mean they're getting some of the lowest rates on record – and the Reserve Bank of Australia governor Philip Lowe this week hinted the cash rate may soon drop further still.

Interest rates for savers slashed

Other Australians across the country are also wearing this decline in rates, with two of the four major banks following the RBA's lead.

CBA and NAB both cut some of their savings rates last Friday 14 June, by up to 0.25 per cent and 0.31 per cent.

Smaller banks have also slashed rates including ING, AMP, ME Bank and Bank of Queensland, which each dropped their rates by up to 0.25 per cent.

Financial comparison website RateCity.com.au expects Westpac and ANZ will announce cuts to their savings accounts in coming days.

It's not just savings account holders experiencing rate cuts, says RateCity research director Sally Tindall, who also points to cuts of term deposit rates at more than 50 banks ahead of the RBA rate announcement.

Major banks' term deposit rates, difference between March and June 2019

term deposits

Source: Ratecity.com.au

Tindall says the RBA's rate cut announcement earlier this month was like "rubbing salt into a wound for savers".

"It’s been a tough slog for savers over the last three years, and while a range of factors influence deposit rates, we’re expecting them to sink even further," she said.

Why is this happening

Last month Eleanor Creagh, Australian markets strategist at Saxo Bank, provided some insights on the interplay between official interest rates – set by the RBA on the first Tuesday of every month – and bank interest rates.

The RBA describes the cash rate as the "rate charged on overnight loans between financial intermediaries".

Banks are not required to adhere to the cash rate, but the RBA rate has "a powerful influence on other interest rates" and "forms the base on which the structure of interest rates in the economy is built".

On 4 June, the RBA cut the official cash rate by 25 basis points to 1.25 per cent. The cash rate had been at 1.5 per cent for the previous 33 months.

On the domestic front, Reserve Bank Treasurer Philip Lowe cited weak inflation, rising unemployment and ongoing falls in house prices as the reason for the rate cut. The move also came after a surprise drop in retail sales figures.

At the time, Don Hamson, managing director of Plato, warned that rate cuts will see Australian retirees receive less income from floating rate income investment assets.

If further cuts to the cash rate occur this year, he says returns on cash, term deposits and products linked to bank bill rates will also likely continue to fall.

"Many income-related products, like income securities or bank hybrids are priced at a margin to bank bill rates, and we have already seen 90-day bank bill rates fall more than 60 basis points this year, which is already crimping their income," he told Morningstar.

“Retirees living off cash-linked income will struggle to make ends meet."

Rates have been low since the 2008 global financial crisis, as central banks try to stimulate consumer spending and growth. Many economists are expecting two or three more rate cuts this year.

What can investors do?

Savings accounts alone are an ineffective way of accumulating wealth, particularly highlighted in this current low interest rate environment.

Meanwhile, annual inflation is running just above the cash rate, eroding the value of those savings.

CPI v RBA Cash Rate (%)

cpi inflation cash rate

Diversifying slightly away from cash into higher returning investments like bonds and stocks could see you substantially increase your long-term savings.

However, cash has its place in every portfolio. An easily accessible pot of cash held clear of stock market volatility is wise for emergencies or building wealth to capture new investment opportunities.

Shop around for the best savings and term deposit rates

RateCity's Tindall emphasises the importance of doing your research on which financial institutions are offering the most attractive rates, before deciding on the best account for your cash.

"Right now, you can find term deposit and savings rates that offer up to around 3 per cent, however, these rates are unlikely to last for long,” she says.

Standard variable rate accounts are a decent option, but few offer rates that exceed inflation. To achieve a more reasonable rate of growth, take advantage of an account with a maximum variable rate option.

Though many people don't look outside the major banks, some smaller institutions provide better rates.

Rabobank and Citi are offering annual maximum rates of 3 per cent and 2.90 per cent for 4 months as introductory offers on their high interest savings accounts, before the rate drops to 1.55 per cent and 1.60 per cent.

For term deposits, the top three for five-year deposits are paying between 2.60 per cent and 2.90 per cent, with certain conditions, on $100,000 – meaning total interest of around $14,000. 

Tip funds into a cash-ETF

Another option is to consider cash exchange-traded-funds, which typically aim to outperform the S&P/ASX Bank Bill Index, after fees and expenses.

Some options here include:

Of these, Morningstar Australia only provides research coverage on the BetaShares ETF.

Awarding it a Neutral rating, analyst Anshula Venkataraman says this ETF delivers an "acceptable but uninspiring" rate of return.

"This ETF is an ordinary but adequate parking spot for lazy money," she says.

Betashares deposits the pool of capital into cash at call accounts, notice accounts and term deposits – with weightings of 38 per cent, 58 per cent and 4 per cent, respectively.

Venkataraman says the size of this ETF helps the fund negotiate better rates, but that customers may be better off shopping around the banks.

"The benefits of scale are immensely relevant to a fund that invests entirely in bank deposits. AAA can muscle its size to negotiate lower costs and improved rates with a panel of banks," she says. 

"However, banks may offer seductive introductory rates that later revert to lower ones. Most customers would be deterred by the reams of paperwork to shop around, but some motivated retail investors could juice out the most competitive personal deposit rates by regularly switching between financial institutions."

is an editor for Morningstar.com.au

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