March 13th, 2012 Bank of England keeps interest rates on hold BOE's Quantitative Easing has cost pensioners £90bn ISA’s use them or lose them With cash in your ISA: Buyer Beware! Dear subscriber Last week the Bank of England announced that it will keep interest rates on hold for a while longer. Leading analysts have commented that the Bank of England (BOE) may well keep the base rate at 0.5 per cent for another three years in a move that cripples cash-strapped savers. I am not so sure, though. The BOE announcement coincided with the third anniversary of the cut to 0.5 per cent in March 2009 – Yes, at 0.5 per cent the price of money is at the same level now as during the depth of the financial crisis - and according to several commentators this raises the prospect of the base rate staying at this level until 2015. Vicky Redwood, chief UK economist at Capital Economics, said: ‘We think that they could stay at this level - 0.5 per cent - for another three years.’ The Bank could cut rates to 0.25 per cent, saying: ‘Official interest rates could fall even further.’ The Bank’s decision should come as no surprise, with economists not expecting a rate rise for many months in the face of falling inflation and a weak economy that could yet slip into a double dip recession after a 0.2 per cent contraction in the last quarter of 2011. In the UK, recent positive surveys and strong retail sales figures prompted some cheer. Perhaps, a recession can be avoided, but it is still far from clear if this is a rebound from a weak Q4 2011 or a genuine turn for the better. Why I think interest rates may go up Foremost because inflation is on the up again. Persistently high oil prices mean that inflation is not falling as expected. High oil prices kills economic growth. Once commodity price inflation has become a structural feature of the world economy then central bankers may need to tighten policy. In other words, consistent imported inflation would mean that interest rates may need to rise rather sooner than remain at current levels regardless of domestic spare capacity when inflation is above target. Combined with the uncertain effects of quantitative easing (QE) that may well result in more future inflation. The combination of low interest rates and high levels of QE has been particularly painful for savers and those approaching retirement. Bank of England's QE has cost pensioners £90bn According to the National Association of Pension Funds (NAPF) the Bank of England's QE has cost pensioners £90bn . . . so far! Falling gilt yields have wiped £90bn off the value of UK final salary pension schemes since the second wave of quantitative easing began. QE hurts final salary schemes because the Bank uses the money to buy debt, which pushes up the price of Government gilts. This creates lower returns, or yields, on pension funds' investments. It also affects the way pension funds liabilities are calculated using a formula known as the discount rate. Lower gilt yields and long-term interest rates mean that pension funds are effectively more expensive to fund and so appear deeper in the red. Joanne Segars, NAPF chief executive, said: "Businesses running final salary pensions are being clobbered by QE. Deficits that were already big now look even bigger because of its artificial distortions”. "We need to see stronger action from the authorities on this massive issue, which will hurt pension schemes for some time yet. And there is always the possibility of QE3." This brings us neatly to what you can do in order to increase your returns and grow your retirement pot at the same time. Use Your ISA Allowance Or Lose It Forever! For more information download our Free ISA Guides and other saving, investing, trading and retirement guides Your ISA allowance: use it or lose it forever Encouragingly, almost half of the adult population in the UK has already money invested in an Individual Savings Account (ISA). Unfortunately, most of these accounts are worth less than £100,000 and the majority is ‘invested’ in cash ISAs generating below inflation rate returns; i.e. they are losing money! When was the last time you came across a cash ISA millionaire? Tax efficient savings and investment wrappers have been around since 1987 when personal equity plans (PEPs) were introduced. An investor who has made full use of the maximum PEP and ISA allowance each and every year for the past 25 years would have invested £192,480 in total. Based on an average annual return of 7 per cent this would have grown to almost £500,000 while an above-average return of 11.7 per cent per year would have created the status of a ‘paper’ millionaire. Yes . . . ISA millionaires are not that of a rarity anymore. Stock and shares ISA millionaires Anecdotal ‘evidence’ indicate that ISA millionaires tend to have made their money in (a combination of) various ways, including: they have invested in ‘undervalued’ shares of single companies rather than using unit trusts or ETFs, often in smaller, less researched, companies they own a rather concentrated share portfolio of up to 20 companies, at any time, often much less they have secured the occasional “ten-bagger” (the difference between the purchase price of a share and when they sold is ten times or more) they have reinvested their dividends diligently in the same or similar high quality dividend paying companies they have used a ‘drip-feed’ or pound cost averaging type of investment approach. How can you follow in their footsteps? First of all . . make your dividend paying investments tax-free! With the end of the current tax year now only a few weeks away UK savers and investors should make arrangements to use their own, their partner’s and their children’s individual savings account allowances for 2011-12. Shelter almost £50,000 in the next few weeks For the tax year 2011-12, anyone above 18 can put up to £10,680 into an ISA to shelter investment returns from tax. From April 6, the annual limit increases to £11,280. A couple can use this year’s ISA allowance together with next years’ and in effect invest tax efficiently for up to a combined £43,920 over a matter of several weeks. Throw in a Junior ISA either side of the end of the tax year and more than £50,000 can be sheltered. The earlier you start your kids with a Junior ISA, investing in dividend growth companies, the earlier they will be compounding their way to a fortune using dividends. Also don’t forget: the ISA allowance increases every year in line with inflation as measured by the retail prices index. Summary of ISA benefits Returns in ISAs are free from income and capital gains tax. The compounding effect of tax-free returns in an ISA grows significantly faster than conventional savings accounts and faster than inflation, if you invest in above inflation dividend paying and growing companies. Note: dividends from stocks and shares within an ISA are ‘tax-efficient’ rather than tax free. In all cases 10 per cent tax will have already been taken from dividends at source, prior to the dividends having been paid into your stocks and shares ISA. Unfortunately that 10 per cent cannot be reclaimed. Higher tax payers, and those higher-rate tax payers in the 50 per cent tax bracket, gain substantially from holding their dividend paying stocks and shares in an ISA – they pay the same tax at 10 per cent rather than the 32.5 per cent tax on dividends when not sheltered in an ISA. Use Your ISA Allowance Or Lose It Forever! For more information download our Free ISA Guides and other saving, investing, trading and retirement guides With cash in your ISA: Buyer Beware! When markets are going up, investors can slip into the mindset that they will simply put their money to work and effortlessly make another 7 or 10 per cent per year by compounding their wealth in the stock market. But anyone who has invested for a while knows that such thinking is dangerous. Investing is rarely that easy. Investors must be skilled in many disciplines to make fully informed investment decisions. Such as finance and accounting in order to understand the fundamentals of how a company operates and makes money. On a macro levels there is demographics and market trends to understand. There is also the 'unpredictable' element of human emotion i.e. fears versus greed and irrational behaviour that can impact the stock market. Another area is history. The study and understanding of multi-decade market cycles of individual companies, their share prices and dividends which give us, at Dividend Income Investor.com, an unique insight into events occurring today. We know which high quality dividend paying companies we want to buy and at what share price and, in order to maximise our returns, we are just waiting for them to be sold at that price. You too can know what to buy when. Secure access to our premium content at Dividend Income Investor.com. claim your 25% life-time discount:HERE Now Many thanks Till next time Steven Dotsch Managing editor EMAR Publishers Dividend Income Investor.com Twitter.com @Investoretire Know someone who'd like to receive Dividend Alerts themselves? 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