The Forgotten Rate Decision
Article by David Press (B.Comm)
In a time when rates are sitting at 50 year lows, the major decision for most is whether to fix their lending rates or remain exposed to interest rate changes. However there is an ever growing percentage of our society who has another side of interest rate choices on their mind. As our population ages, more and more will be less concerned with mortgage rates as they are with term deposit and cash interest rates in which a large amount of their retirement income is derived.
With rates apparently at the bottom of their cycle it is as important as ever for retirees and those with their investments in cash to be diligent in their rate and term choices. It would be a bad decision to place funds in a long term in these times, even if the rate appears attractive compared to what is on offer for shorter terms, much the same as locking rates in for the long term on a mortgage at the top of a rate cycle would be a bad decision. As rates start to rise, invariably it will be due to or alongside increases in inflation. Locking in rates for the long term may result in reduced real rates of return as inflation erodes returns in future years.
For those who prefer fixed term deposits, now more than ever it is important to diversify funds across a variety of terms and rates to ensure gains are realized in the event of interest rate increases. A mix of short term (3-12 months), medium term (12-24 months) and some limited exposure to long terms (24 months +) would be ideal.
At call deposit accounts, particularly internet/electronical based accounts offer highly competitive interest rates with interest calculated daily and paid in monthly (more often than not). The major benefits of such an account is not only the benefit of flexibility, with no penalty should funds need to be withdrawn, but the account holder also benefits from the wonders of compound interest and any upside in interest rates going forward. On face value interest rates offered by at call accounts may appear similar to those offered in term deposits, but effective rates of return are somewhat higher in at call accounts due to the effect of compound interest.
With the comments of the RBA and the fact rates have remained unchanged for some 5 months (at the time of writing) in the front of any switched on investor's mind, rate rises in the future and their effect on cash investments should be carefully considered when making any re-investment decisions. Before making any decision we strongly recommend seeking financial advice from a licensed financial planner/advisor or your local banking representative to match the appropriate product(s) to your needs.