Term deposits — are they worth it? At what point are they worth it?
Now, rationally, I suspect the answer is "Of course!". But I'm looking for general advice, if my fellow Tildesians would be so kind.
This question has arisen while investigating opening a Monzo account. Apparently, you can lock away some money for 12 months and get 5.3% AER interest on it - meaning for every, say, £1,000 I put in, I get £50 back, right?
My question: is that really worth it, in the grand scheme of things? Even if I put in £10,000, I'd be locking myself out of that much money for a grand total of £500. I understand that's a lot to some people (even me), but it hardly seems worth it.
Perhaps there's something I'm missing. Perhaps some bad maths on my part or some other type of interest that I don't know about. All advice is welcome and appreciated!
The question is always what else are you doing with that money. If the alternative is that 10k sitting in cash earning no interest then of course. The fixed term rates are always slightly higher. If you need to use that money (or think you might) then I wouldn’t put it in a fixed term savings rate.
But hey it’s free money that might go some way to offsetting the value of it in real terms.
A reasonable way of using this is If 5.3% is higher than your mortgage rate then any overpayments you might make would be better off in that savings account than paying down the mortgage.
There are other ways to get better returns (investing/ S&s isas etc) but have similar terms, fees and have more risk associated with the returns.
Important to note when deciding on mortgage overpayments vs term make sure you take taxes into account. Interest in the US is typically taxed as income that might eat up your gains.
On the flip side, though, if you're itemizing, mortgage interest is tax deductible, and paying down the mortgage early loses you that benefit.
Those are some great points, thanks. I suppose you're right that it's better it be sitting somewhere doing "something*, and it looks like there are savings accounts where you aren't locked out of your money, which may be more up my street.
I mean, I'm no financial expert - I'm an idiot with barely anything in savings not investing my own money correctly.
That being said, I found there was a WORLD of difference between saving and not saving. I made a rule for myself - anything left from my paycheck that was above $100 would go into my savings account, but I would always put at least $40 before that next paycheck hit. So, if I only had $110, I'd run myself down to $70 just to make sure I put that $40 in.
I swear to you, it's like extra money just appeared in my account. Before doing this I'd almost always be a little strapped for cash by the end of the pay period. After doing so - and having done nothing significant to change my spending habits - I just found myself with more money. It still feels like it comes out of thin air.
All this to say, I think saving alone is worth it just for the act; once you're more aware of your finances things start to work out better immediately. My savings are always there, I can always grab them, but having that one single rule has literally improved my life.
I agree with this sentiment. The answer to “is it worth it?” Is entirely dependent on the outcome OP is hoping to see. If it’s significant financial return from a basic savings rate and a low initial investment, then no. Even with a very large pot, you will start to accumulate lots more interest, but on the proviso that the savings are untouched.
What having savings does do is a) start to build financial discipline, b) mean you have a pot of cash you can use for emergencies and c) give you purchasing options which would be inaccessible to you previously.
C) is actually really important. Fixing or taking action on something earlier or ‘in the moment’ is often significantly cheaper than the alternative, or has significant positive impacts to your health/quality of life. Without savings, these aren’t even options.
I find it useful to make a distinction between various purposes of saving. Sometimes it's short term, for a specific large purpose; other times it's long term for well down the road in retirement; and yet others, a buffer between myself and whatever emergencies may come up.
I was never active on the personal finance subreddit, but it it had some good resources. The cumulative advice was basically, build up an emergency fund that you can access on short notice, to an amount you find comforting. Then pay off debts, then invest etc etc.
To your point about Monzo, I'm assuming you have money set aside for emergencies, and are now looking at how to invest whatever is left over. If you have a big purchase approximately 12 months from now I'd say go for it. Otherwise, you're probably better off maxing out whatever tax advantaged accounts you have access.
And as a side note, there's something to be said for investing in yourself. I personally am saving up for Lasik. There's certainly more lucrative options with better returns over time, but sometimes the point of savings should simply be to make your life more pleasant.
I don't have anything I'm saving up for not am I prone to sudden expenses or emergencies (living in the UK, the government saves me from any medical expenses; and I don't have a car or property). This is possibly what's stopping me from seeing the benefits.
I like your point about investing in myself, though. I'll give it some thought, thank you
There are two main reasons to save money:
To have a large sum of money to spend in the future.
To earn money on the invested money.
Given that you've focussed on the interest rates available to you, I assume you're not saving up for a future expenditure (such as going on holiday or buying a car). I assume you're trying to earn money on your saved money by putting it into a term deposit.
In that case, I'd call it an "investment" rather than saving. To me, saving is making regular contributions toward a lump sum that can be spent in future. But that's just terminology.
In a roundabout way, you're asking if 5.3% is a good return on investment (ROI).
Well... what else could you invest that money in, and would those other options give you as good a return?
As one example, you could invest your £10,000 in the stock market. Looking at the past performance of the FTSE, we can see that, if you'd invested money 12 months ago on 7th July 2022, when the index was 7189.08, compared to 7280.50 on 7th July 2023 (now), you'd get an ROI of 1.27%. That's not good! However, if we move that window back by just 2 days, from 5th July 2022 (7025.47) to 5th July 2023 (7442.10), you'd get an ROI of 5.93%. That's better than your 5.3% from a term deposit.
However... there's more risk involved in the stock market than in a bank-guaranteed term deposit. I had to artificially fiddle with the dates on the stock exchange investment to find a return that's higher than your 5.3%. You won't get to do that. The graph you'll be relying on hasn't been drawn yet. The market could crash tomorrow, but your term deposit is unlikely to vanish overnight.
This means that you have to start balancing risk against your return. Generally, the higher the return, the higher the risk: people will pay you more for investing your money into a risky venture than into a safe venture.
So, maybe you could invest your £10,000 into a cryptocurrency like BitCoin. Its current value of USD30294.89 is 40.39% higher that its value of USD21582.14 one year ago. However, that starting value came after a 6-month period where BTC dropped by 68%. Like I said, higher returns usually come from higher risks.
I assume, with the sums you're talking about here, buying real estate or investing in fancy art works isn't on your agenda. :)
Then there's something called "opportunity cost" - the cost of the opportunities which you're giving up, to invest that money for the next 12 months, instead of having it available to spend.
All of this boils down to the fact that it's almost impossible to give you financial advice without diving into your financial situation.
However... for me... I value conservative investments over risky investments. I'd be happier to get a guaranteed 5% return than a possible 10% return.
Thanks for your insight, and the clarification on terminology. You're right that I'm certainly looking to invest rather than to save.
I've played with crypto markets in the past to consistent success, but I'm way too risk-averse to spend more than £100 on it at a time. It does appear that the 5.3% ROI over that period is a fairly good deal for how safe it is.
That's good to know. It confirms that the change I made to your title was useful.
I'm no expert financial advisor (I know the theory about finance, but not how to put it into practice), but that was also my feeling.
As the folks over at /r/ukpersonalfinance would say, have you checked the flowchart?
Of course it depends on your circumstances. Up until a year ago, I could have had a much smaller Emergency Fund pool, as I could always just move back in with my parents. But now they live in a different country, so that pool has had to grow.
What a great flowchart, I'll read into those things further later on!
I'm still umming and ahh'ing about pensions — it seems unlikely that I'll ever actually get the money — but the employer matching is certainly enticing.
Fantastic flow chart. if anyone's aware of a Canada version, I'm very interested
Your title is kinda generic, but the post is specifically about something like a CD with a withdrawal period.
In terms of "savings", like in the abstract sense of spending less than you make, then I think it's worth it. There's dual incentives here, one is managing risk, having a cushion of cash to deal with spikes in expenditures. The other is making use of investments.
In terms of investing at all, also probably a good idea. There's, of course, many ways to invest money, but for most people there is some form of investment that is a good idea. It's a low risk way to get on the exponential growth train.
In terms of a MMF or CD of 5% with a lockup period, it seems a tad low. There are HYSA bumping up against 5.3% in the US, although I'm not sure if it the same in the UK. If the yield is not sufficiently high for you, you just need to up the risk ladder: next stop, index funds. Well, I suppose there are bonds in that range, but index funds are less work.
Buying some broad based index funds will get you better average yields and you can liquidate at any time the market is open, but you'll have to deal with greater short term volatility, as unlike a MMF, CD, or HYSA, they can go down.
People are comparing the wrong things. Put your money into a Wise checking account and it’ll give you 4% ish on GBP with zero liquidity restrictions. It’s a normal account with a flat passive %.
Then you’re comparing locking your money away for just 1% and a flat rate guarantee. I say meh indeed.
DM me if you want a referral invite to sign up (you get a bonus, I don’t remember what).
That being said, 4% interest will not stick around forever. Starting a 5 year CD if you have the funds now might be worthwhile.
Would you bet on this?
If I had 50 grand to spare, you betcha I would. I'd be setting up a 5-year CD ladder with $10k increments.
The interest rates might go up for a decade, but they also will probably bottom out after a bit.
High interest rates for the individuals reward saving over consumer spending. The powers that be won't let that persist for too long.
Its a 0-risk bet. Worst case you don't keep pace with inflation. But there's also a 0% chance of losing 60% of the value as the market bubbles pop.
For context, I entered adulthood in the early 2000's. Interest rates have been less than 1% for almost my entire adulthood.
I agree with this. Laddering is a bet each way.
I remember I was laddering term deposits/CDs just before the GFC. At the time I remember feeling annoyed at locking in a 5 year rate at 5% when the short term interest rate was over 8%, but a year or two later that really paid off for me.
That is, in some ways, what every CD is - a bet by the market that higher-liquidity instruments like checking accounts will not outperform them (or to be more precise, that the difference between the rates is great enough to be worth locking the money up). If the market, as a whole, thought that checking accounts would beat out CDs, CDs would have to offer higher interest rates in order to stay competitive (and eventually reach equilibrium with the market's feelings).
Locking yourself out of doing what with it? Spending it? Just... knowing you can access it? Or putting it into another investment vehicle?
All cash savings are decreasing in value by whatever the rate of inflation is in your country. Interest needs to at least offest that. At the moment inflation rates in the west are quite high so all you're doing is treading water.
The rule of thumb is that everyone should have 3 months of living expenses in easy-to-access savings, such as a bank account or term deposit (you can break those if you need, you just lose interest due to break fees).
But after that, yes there is an opportunity cost, but only if you would otherwise be putting that money into something that returns more over time.
They key isn’t to just save 1,000 once. It’s to consistently do it year after year. In the early years the rate of savings matters a lot more than the rate of return.
That, combined with compound interest leads to great results. If you save 1,000/year for 15 years, you end up with a little more than 23,000 at the end. If you apply that 5.3% rate to 23,000, now you’re earning 1,200/year indefinitely even if you never contribute again.
5.3% is actually low for a long time horizon and depending on the investment vehicles of choice. Higher rate of return and longer timelines have a big effect. 10.000/year for 30 years at 8% nets over $1,200,000 at the end. That could mean 60-100k annual income just living off the interest at that point in time.
One other option is to put it into premium bonds here in the UK
Its true there is no interest rate, granted but your money is guaranteed safe and government backed, accessible after a few days, and every month you are entered into a draw and can win anything between £25 and 1 million pounds. And with £10,000 thats 10,000 chances
Over the past 4 years we have invested £16,000 and have won, in various £25's, £50's and £75's around £425 pounds. However YMMV.
Not a recommendation, just a thought
That's a return of 0.66% per annum, which is well below inflation.
But it does track, as those kinds of schemes do pay out well below the going interest rate in total prizes. That's why they are so lucrative for their managers.
I would suggest anyone thinking of doing this should look at the foregone interest and choose their investment amount accordingly.
For example if we use j0rd's rate of 5.3% then 5.3-0.66=4.64% so the foregone interest on £16,000 invested in premium bonds instead is around £742.
So, basically £742 (minus your tax rate) is the yearly cost of entering these draws. Kind of like spending £742 on lottery tickets.
If, say, someone is more comfortable only spending £70 on a chance to win big, then they should invest a sum more like £1,600.