Could low interest rates prompt portfolio diversification?

Since March 2020, the Bank of England has held interest rates at historic lows of 0.1%. This decision has aimed to make borrowing cheaper and drive consumer spending amidst the economic slowdown prompted by the COVID-19 pandemic.

And it seems that interest rates are set to remain at record lows for the foreseeable future. Just yesterday (5^th August 2021), the Bank of England announced its decision to maintain base rates at 0.1%, with an increase unlikely until mid-2022.

On the one hand, this could be seen as a positive decision. Given that the FCA has only just brought an end to the mortgage and credit payment holidays, the verdict to raise interest rates could have sparked panic amongst borrowers.

Yet, the decision is unlikely to be viewed optimistically by savers…

What do low base rates mean for pension savers?

Consistently low base rates will certainly spark concern amongst some retirement savers. Indeed, research from My Pension Expert found that the majority (60%) of UK adults aged 40 and over are partially dependent on funds in traditional savings accounts to finance their retirement. As such, low base rates will mean that money in savings accounts will not be making as generous gains in interest as they may have done prior to the pandemic.

Adding to the financial pressure for savers is the rising rate of inflation. Forecasts have shown that inflation is set to hit 4% by the end of the year. Rising inflation throughout prolonged periods of low interest could prove damaging to people with money sat in traditional savings accounts, as it could cause their funds to depreciate over time.

Likewise, low base rates will not be good news for those considering purchasing an annuity – a retirement finance product purchased with a pension pot that offers income for life or a predetermined period of time. Annuity rates, which are used to calculate how much will be paid to a retiree, are closely tied to interest rates. Although this product is traditionally considered to be a secure source of retirement income, low interest rates have driven annuity rates to rock-bottom levels. As such, many pension planners are not being offered annuities that would allow them to sustain their current standard of living.

Evidently, this is an unnerving time for many savers. However, it could also prompt a move towards more diversification in Britons’ pension investments.

The benefits of diversification in pension investments

For some savers, diversifying their pension savings and investments could be the ideal route to making their money work harder, despite plateauing interest rates.

For example, My Pension Expert’s aforementioned research found that alternative pension investments are becoming increasingly popular amongst savers. One in five (19%) plan on using alternative savings mechanisms (such as investments or stocks and shares ISAs) to fund their retirement, instead of saving in traditional pension schemes, with a further 18% considering property investments to fund their retirement.

Indeed, these figures highlight the fact that traditional savings options are not the only route to retirement.  Savers can and should investigate different options to see how their money can go further through diversification,  keeping their retirement strategy on track.

Of course, such retirement savings methods will not be for everyone. Indeed, each individual will have varying risk appetites, and so they should only pursue investments following careful due diligence. As such, those curious about diversifying their pension investments must seek independent financial advice. Advisers will consider their client’s specific needs, goals, and appetite for risk, and make recommendations tailored to them.

Prolonged periods of low interest rates and rising inflation will be unnerving for many savers. That said, it is important to remember that alternative options are available to help Britons’ money to work a bit harder.