Understanding the Interest Rate and inflationary environment
Is it worth investing in Fixed Deposits in Ireland? Since the start of 2022, Central Banks had begun aggressively raising interest rates to levels we have not seen in four decades, with the European Central Bank (ECB) kicking off rate hikes in July 2022. Central Banks raise interest rates as a monetary policy tool to combat soaring inflation, slow economic activity, and in effect maintain price stability.
Since July 2022, the ECB has hiked rates by 4.5 percentage points, with Irish mortgage rates increasing by 1.5 to 2 percentage points on average. When interest rates are on the rise, it costs more for businesses and consumers to borrow against new and existing debt such as loans and mortgage repayments. As a result, this squeezes consumer’s pockets and limits their spending, especially when it comes to large purchases.
How do banks make profit?
Understanding how banks generate their revenue will give you an idea as to what interest they charge consumers on their loans versus what interest they offer consumers for holding their money on their deposit accounts.
Net Interest Income
Net Interest Income (NII) is a key financial metric used by the banks to measure the profitability of their core lending and investment activities. It reflects the money a financial institution makes from the interest on loans and other interest-earning assets (commercial loans, mortgages, and securities), minus the interest it pays on deposits and other interest-bearing liabilities.
Formula: NII = Interest Income from Loans and Investments – Interest on Deposits and Borrowings
Therefore, banks need to ensure that the amount they generate from interest income on loans and mortgages, credit cards, and fees and commissions, etc, exceed the amount of interest they pay to consumers via savings accounts and deposits. This is how they make their profit, otherwise known as ‘Deposit Spread’.
So why does this matter?
Because as major banks have profited from the ECB interest rate increases, so too should Irish savers with money on deposit benefit. However, the statistics have shown otherwise, offering very little to savers.
Why are savings and deposit rates in Ireland so low?
According to Daragh Cassidy over at Bonkers.ie, who compares mortgage rates and prices across the market, since July 2022, the ECB has hiked rates by 4.5 percentage points, with Irish mortgage rates increasing by 1.5 to 2 percentage points on average. He mentioned that we can expect even more rate hikes from Irish lenders in the coming months, regardless of whether the ECB hikes rates again or not.
As at August 2023, Irish household deposits are currently sitting at a total of €153 billion in Ireland with the banks using the money to part-fund its mortgage lending cheaply as opposed to borrowing from the ECB. Admittedly, this has helped keep mortgage rates low, albeit, from a level that was already high to begin with, however, Irish banks were paying savers very little interest as a result.
In some cases, even if central banks increase policy rates, banks may not pass on the full increase to depositors to protect their profit margins – especially now that the banks have been making decent profits after the many previous and prolonged years of low or negative rates. Not to mention that if you have fewer banks in the system, as it is in Ireland, they can more effectively control the market and how much is passed on to consumers. This has now put media and political pressure on the banks to improve on deposit rates for savers.
The illustration below shows Ireland as having one of the LOWEST deposit rates in Europe for savers.
The impact of increasing inflation hasn’t helped savers either as illustrated below, showing the real value of money being eroded on deposit:
What are my savings and investment options in Ireland?
A good starting point is to first identify your financial goals and objectives. Ask yourself the following questions:
What is the purpose of my investment?
What am I saving towards?
What level of risk or volatility am I comfortable with to achieve my investment outcome?
What is the term of the investment? (I.e., If I can only access my money after 3 or 5 years, will I have sufficient income or an emergency fund to cover unforeseen short-term expenses?).
These are the types of questions you can get guidance on when consulting a Financial Advisor.
Now, let’s have a look at your investment options by separating your short-term goals from your long-term goals.
Short-term goals (1 – 5 years)
When investing for short-term goals, it’s important to prioritize capital protection and preservation and liquidity. You can consider lower-risk investment vehicles such as savings or deposit accounts, or short-term bonds to ensure that the funds will be readily available when needed and that they are not subject to significant market fluctuations.
Examples of short-term goals can include:
- Save for a Specific Purchase:
- Goal: Accumulate funds for a planned expense, such as a vacation, new car, or home appliance.
- Timeframe: Varies depending on the specific purchase, usually within 6 months to a year.
- Education Expenses:
- Goal: Save for tuition, books, or other educational expenses.
- Timeframe: Could be within a year or two.
- Deposit for Home:
- Goal: Accumulate funds for a down payment on a home.
- Timeframe: Typically within 1-3 years, depending on the housing market and personal savings rate.
- Wedding Expenses:
- Goal: Save for wedding-related costs.
- Timeframe: Varies depending on the wedding date and the scale of the event.
Always consider your risk tolerance and financial situation when planning short-term investments.
Short-term savings options
To find the most suitable short-term savings account for your needs, you must consider factors such as interest rates, fees, accessibility, and any specific terms and conditions associated with the account.
It’s advisable to compare your options from institutions or product providers outside of the banks in Ireland to make an informed decision. As discussed above, because banks in Ireland determine the rates that are offered to consumers, it doesn’t leave you with many options.
What are the deposit interest rates in Ireland?
Irish bank deposit interest rates offer little value over the below term duration with only PTSB offering 3 and 5-year fixed deposit accounts. So it is worthwhile looking elsewhere for better rates in the market.
What are some of the best deposit rates in Ireland?
You can find low-risk investments offering higher value outside of the banks. Take the below comparison for example, you will find Aviva’s 5-year Fixed Deposit comfortably beats that of PTSB per annum and over the fixed term. Bare in mind, the below is just one of the many options available in the market, alongside other 2 and 3-year fixed deposit options.
Please note, that regarding our examples and comparisons, we are not a tied agent of any insurer or product provider. As we are an impartial broker, and compare products and funds offering the best value across the Irish Market with the likes of Zurich, Aviva, New Ireland, Royal London, BCP, Cantor Fitzgerald and Standard Life.
The case for Fixed Deposits
Fixed deposits do have a place for specific goals if you need to access the funds after the term (short term investment horizon), and you have a low risk appetite.
However, its worth noting that if you have a longer investment time horizon, and you have no need to access the money for a good while, then you have the option of taking on more risk to achieve your goals. Therefore, a sensible approach is to choose investment asset classes that will aim to deliver higher returns than fixed deposits over the longer term.
We will touch on these below…
Long-term goals (5 years +)
Long-term investment goals are financial objectives that typically extend over a period of often five years to a decade or more. These goals are designed to build wealth, provide for major life events, or secure financial stability over the long term.
Examples of long-term goals can include:
- Retirement Planning:
- Goal: Accumulate enough funds to maintain a comfortable lifestyle during retirement.
- Considerations: Pension plans, personal retirement accounts, and other long-term investment vehicles are often used to build retirement savings.
- Education Funding:
- Goal: Save for the education expenses of children or other dependents.
- Considerations: Education savings plans, such as ‘College Savings Plans’, can help fund tuition and related costs.
- Goal: Save for a down payment on a home or investment property.
- Considerations: Long-term savings accounts, investment portfolios, or other vehicles can be used to accumulate the necessary funds.
- Starting or Expanding a Business:
- Goal: Save capital to start a business or expand an existing one.
- Considerations: Long-term investment vehicles or specific business investment accounts can be utilized.
- Travel and Lifestyle goals:
- Goal: Save for extended travel, hobbies, or other lifestyle choices.
- Considerations: Long-term savings or investment accounts can fund these goals.
…and the list goes on.
When pursuing long-term investment goals, it’s important to have a well-defined financial plan, regularly review and adjust the plan as needed, and consider working with a financial advisor to ensure alignment with your specific circumstances and risk tolerance.
Long-term Savings & Investment Options
As Financial Advisors, we get queries from customers saying they have a sum of money sitting in the bank and feel they simply have to do something with it as it’s earning nothing in the bank, while being eroded by high inflation! As mentioned previously, it’s advisable to compare your options from institutions or product providers outside of the banks to make an informed decision.
There is a case for saving in Fixed Deposits in the short-term, however, if you are looking to achieve long-term goals and gain greater potential returns, its important to focus on diversified asset classes that will aim to outperform Fixed Deposits AND inflation.
You can invest in the above asset classes in one (or a combination) of the following:
Regular Savings Plan:
- This is a regular investment plan, that will allow you to contribute a fixed amount regularly. This approach helps with long-term wealth accumulation, especially for those who do not wish to invest a big sum into the market all at once.
- This form of saving is beneficial when your money is drip fed into unit-linked investments, especially during market volatility, allowing your money to buy more units if the price drops to lower levels.
This is a financial product that allows you to invest a lump sum or make regular contributions. Investment Bonds are typically offered by insurance companies (mentioned above), that provide a tax-efficient way to grow capital over the long term.
These are the key features of Investment Bonds in Ireland:
- Investment bonds are structured as life insurance policies with an investment component. Your premiums are invested by the insurance company into a variety of assets (of your choice) such as stocks, bonds, and other investment vehicles.
- Tax Efficiency:
- One of the primary advantages of investment bonds in Ireland is their tax efficiency. Any investment growth within the bond is typically tax-deferred until the bond is cashed in or matures.
- You can make partial withdrawals or surrender the investment bond entirely. The tax treatment of withdrawals depends on various factors, and it’s important to understand the implications before making any decisions.
- Fees and charges:
- Investment bonds incur charges and fees, including management fees, administration charges, and early withdrawal penalties. Our Financial Advisors will aim to offer you the most competitive charges and allocation rates across the market.
- Investment Options:
- You will have the flexibility to choose from a range of investment options based on your risk tolerance and financial goals.
- While investment bonds offer the potential for capital growth, they also carry investment risk. The value of the underlying investments can fluctuate, impacting the overall value of the bond.
The below investment funds and options are an example of Multi-Asset funds that offer you exposure to various asset classes, such as, equities, bonds, property, fixed income, and alternatives (commodities). These investments carry higher risk and volatility than Fixed Deposits, however will generally aim to deliver returns in excess of Fixed Deposits and inflation over the long run, to help you meet your investment objectives.
Note that you are not only limited to one investment fund or style. You could also opt for a hybrid investment portfolio combining fixed return investments with multi-asset investments to add further diversification and smoother returns over your chosen time-horizon.
Where to from here?
You may have money on deposit that is nearing the end of its investment term, or you are sitting on a lump sum or built up savings and not quite sure how or where to invest it. Our Financial Advisors can sit down with you to get an understanding of your financial goals and objectives, and then put together an investment strategy to help you achieve them.
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