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What to do with short-term cash: do we all just suck up low rates?

It is a fact of life that if you want to make money with your investments, you need to be willing to take a risk. That’s fine for long-term investments – they can be squirrelled away in the stock market and ignored. However, for short-term investments, it’s tough, because you don’t have time to ride out stock market volatility. Do you just have to suck up low rates on savings? Or can you do more?

Peter Chadborn, a director at advisory group Plan Money, admits people have relatively few options for this type of cash: 

You can’t really invest this type of money because you are exposed to a degree of volatility, even if it is very cautiously managed. Any guarantees come with high costs, so what you get is probably going to be the same as from cash.

So there’s no magic bullet, but what can you do? Everyone knows that they should shop around for the best rate and there are plenty of comparison sites to find those top rates. But it’s a pain – all that opening and closing of new accounts. Some even require you to open a current account. Nevertheless, if you’re willing to do it, you can get around 1.3% on an easy access account. Some current accounts pay up to 5%, but it’s usually only on relatively small pots of money, not useful if you’ve got £50,000 as a deposit on a house.

One problem to note is that opening multiple accounts is not only a hassle, it could affect your credit score. That’s important if you’re about to apply for a mortgage. Ask yourself whether it’s worth it for a couple of hundred quid in interest.

If you know when you’ll need the cash, you have an advantage. Instant access accounts tend to pay less. However, even with that in mind, the top-paying one-year fixed rate bond is still only paying 1.95% over one year. That’s still behind the current inflation rate of 2.4%.

Regular savings options are still pretty attractive and most banks offer them. You can’t take it out before the end of the term (usually a year). If you paid in £300 per month at 5% with First Direct, you’d earn £96.77 on the £3,600 total – equivalent to around 2.7%. Not bad and, finally, something that pays ahead of inflation.

Gilts are another option – unless you think the UK government could go bust (it has never yet reneged on its debts). This has a number of advantages. You can do it on a platform – see the options on Hargreaves Lansdown here - so no to-ing and fro-ing with different accounts; the rates are reasonable and if you hold it to the end of the term, you get your money back.

Chadborn thinks more people should consider National Savings & Investment Products - - particularly premium bonds:

You can put in up to £50,000 and you don’t need to worry about the Financial Services Compensation Scheme limits because it’s guaranteed by the government. People usually get £20-£30 here or there, roughly in line with a savings account. And you always have the potential for the big prize.

Premium bonds are super-flexible, you can buy and sell with no penalty, you’re guaranteed to get your money back and you get a shot at winning £1m. OK, the odds are pretty long - 24,500 for every £1 bond - but it’s better than the lottery and you’ve got to be in it to win it, right?  Also, if you had to ‘pick a team’ so you don’t need to keep opening and closing back accounts, NS&I is not a bad choice. It also has an instant access account paying 0.95% and a one year bond at 1.45%.

The Financial Services Compensation Scheme runs to £75,000 and protects you if your bank goes bust. Without wishing to tempt fate, banks have been through a significant restructuring exercise and are in far better shape than at the height of the financial crisis, so this is probably less of an issue than it was, but it is still worth bearing in mind. Some of the more obscure foreign banks – which often offer the best rates – are not protected by the scheme and you need to check.

Don’t neglect tax as well. If you’re a basic rate tax payer, you have a personal tax free allowance for interest earnings on savings of £1,000. ISAs will also pay out tax free, but make sure you factor it into your return expectations.

A final point: don’t be seduced into thinking that some of the peer to peer options are capital protected. There’s a lot of dodgy language being used about ‘near cash’. You can lose money on them, so be aware of that if you’re looking for a home for short-term capital.

Read next: How risky is the stock market (really)?

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