Rock-bottom interest rates over the past decade have obliterated the returns for cash savers. It’s why I’ve prioritised investing in dividend stocks to give me a healthy extra income.
Investing in UK shares is of course riskier than parking my money into a cash savings account. Markets can go up, but they can also go down, putting my capital in danger.
So with interest rates rising, should I now prioritise investing in a good savings account instead?
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Rising rates
Pleasingly, the returns on savings accounts are rapidly improving as the Bank of England (BoE) hikes its benchmark rate. The BoE raised interest rates to 3% on Thursday, the single biggest increase since the 1980s.
Things look set to get steadily better for savers in the weeks and months to come too. Inflationary pressures mean that the BoE can be expected to keep aggressively tightening policy. The market is currently forecasting that interest rates will hit 5% next year.
This should prompt banks and building societies to pass on a meaty rate rise to their customers.
Better returns with shares
Okay, so savings rates are rising. But the returns that I can expect to make as a long-term share investor still makes stock investing a better choice for me.
Let me show you why. According to Moneysupermarket.com, Goldman Sachs (through its Marcus account) and Saga currently offer the best-paying no-notice Cash ISAs today. They offer a rate of 2.5%.
This is well below the 8-10% average annual return that long-term UK share investors tend to enjoy. And even if Cash ISA rates rise again, the returns on offer will still likely lag way behind what I can expect to make by buying growth or dividend stocks.
Why I’m buying dividend stocks
I’m pleased that rates on savings accounts are going up. I hold a Cash ISA. However, I only use this to hold money for a short period. I also use it to store cash that I might need for a rainy day.
I invest for the future using my Stocks and Shares ISA to buy dividend stocks. And, pleasingly, extreme stock market volatility in 2022 has provided a significant boost my income. I’ve invested in income shares like Rio Tinto, Persimmon and Target Healthcare REIT, companies whose dividend yields have shot above the market average.
I plan to keep building my portfolio with stocks paying above-average dividends too. This way I’m confident I could generate long-term returns above that 8-10% yearly average, perhaps at least 12%.
The miracle of compounding means this could help me build a healthy nest egg for retirement. If I can hit that 12% target I could, after 30 years, have turned £200 invested each month into more than £579,000! That’s far above what I could expect to make with a Cash ISA.
