Last week, the Bank of England raised interest rates to 1.25%. Even though this hasn’t been passed on via my bank to my current account, I can get a cash ISA rate above 1%. With projections that the interest rate could head higher still this year, some might think that it’s worth just saving excess cash in high interest accounts. Personally, I still think that investing in income shares is my best option. Here’s why.
Higher risk, but higher reward
I accept that investing in stocks does carry with it a risk to my capital. There’s no guarantee that if I invest £1,000 today I could take the same amount of money out in a year from now. With a high-interest savings account, I’m guaranteed the safety of my cash.
Yet on the flipside, I feel the reward from investing in income shares easily offsets the risk. At the moment, I can buy stocks offering dividend yields in excess of 10%. Even if I want to stick to conservative names, I can note the 4.73% yield from Lloyds Banking Group, or the 6.08% yield from Vodafone.
The longer I hold on to such stocks, the lower my risk from my initial investment becomes. For example, I could buy a stock with a yield of 5% and hold it for five years. At the end of that period, even if the share price has fallen by 10%, I’m still comfortably in profit overall given the passive income received.
The need to diversify
Dividends aren’t guaranteed. This is another reason why I might decide to invest in a product like a Cash ISA, which does guarantee my income. However, if I diversify my money between multiple different dividend shares, I can reduce this risk.
For example, with a dozen stocks in my portfolio, I can survive if one cuts the dividend payment. It still isn’t what I want, but my overall income stream won’t be materially impacted. I can also sell that stock and replace it with another company that I think will offer more sustainable dividends. This process can be completed very easily and quickly, reducing the hassle.
So even though I might have to make changes to my portfolio over time, I don’t see this as being enough of an inconvenience to warrant me shunning stocks completely.
Income shares for the long term
The final point that I think is really valid is my time horizon. Interest rates might increase further this year, but what about in years to come? If the UK enters a recession next year, the base rate might actually decrease.
The dividends from income stocks will also vary in the future. But I think the differential in yields versus my cash account is always going to be high. If I put it another way, I don’t think there will be a time when the interest rate is going to be higher than my average portfolio dividend yield. As that compounds in the long term, I’m keen to keep investing in this strategy.
