Is your cash really safe?

I recently drove past the house and street that I grew up in as a young boy.  It has been quiet a while since I was last in the area and it was nice to go back down memory lane.  It reminded me that when I was a young I used to catch a bus to primary school and the bus ticket back then was around 35 cents.  Today, to do the same trip, the cost would be $1.79 – an increase of around 411% over this period of time. I often hear when I am out speaking with people the comment that “everything is just getting so expensive”.  You may have found this too each year whereby the prices of all household goods and services have gone up.  This is what we refer to as “inflation”.  This is essentially the cost of day to day living going up. Today Australia’s annual inflation rate is running at 3% p.a. However don’t be fooled by this number, as this is just an average.  What you may have found is that some goods or services in a local economy may be raising faster than others like my bus ticket.  I am sure when you think about other bills in your life such as insurance costs, utility bills, council rates etc you may find too these costs may have increased at a faster rate than the quoted inflation rate by the Reserve Bank of Australia. The biggest issue is that this number is critical to ensuring that your capital retains it’s purchasing power to ensure that “a dollar today is worth a dollar tomorrow and not 50 cents.” When it comes to investing in cash and term deposits, the greatest risk outside the solvency of a bank, is actually inflation.  If the inflation rate is running at a higher rate than what the bank’s interest can achieve safely, then your actual capital may be doing back in value. Let’s look at an example of an average term deposit today whereby they are paying around 2.5% to 3.5% p.a.- this is compared to the broader average inflation rate of 3%.  If you have invested the funds in an interest rate of less than 3% you will in actual fact see your money has gone backwards each year. Now remember, this is just the quoted average inflation rate. In particular sectors, such as private school fees for example, the annual inflation rate in this sector has been as high as 5% p.a. So some areas of the market then can be a lot higher and the impact of a negative return may be higher. The other concern with this asset class is that cash and fixed interest provides no capital growth and the interest which it earns is 100% taxable.  Capital growth is one of the most tax free ways to generate real wealth over time in that each year an asset may go up in value and there will be only tax if you come to sell this asset. Lets look at an example…. a Commonwealth Bank share which was issued at $5.40 today has a  share is valued at $81.38. If you never sold this share then there would be no tax payable.  If you owned 1,000 shares on issue today this would be worth around $81,380 today and no tax would be payable on this growth. Now we are not suggesting you put all your investments into growth based assets as it is important to consider the risk and return equations when looking at your investment horizon and goals. But, if you want assistance with your portfolio why not call the AJ Financial Planning team for a FREE no obligation consultation today.