Use it or lose it: that is the stark choice facing savers and investors as the deadline for this year's individual savings accounts (ISA) nears.
Individuals can invest up to £10,200 before 6 April in shares or investment funds within an ISA and all profits are free of tax. "It's one of the few tax benefits most ordinary people can access. This makes investing in an ISA one of the key financial steps," said Darius McDermott, managing director of Chelsea Financial Services.
You don't have to invest the full £10,200; any amount will do. What's more, cautiously minded investors or people who want to build up a rainy-day fund could be best paying into a cash ISA instead or as well as a stocks and shares ISA. HM Revenue & Customs rules allow for people to put up to half of their £10,200 allowance into a cash ISA account. This is equivalent to £5,100 each tax year, and the beauty of a cash ISA is that all interest earned is tax free.
But with savings rates so low – even with the benefit of tax-free interest – most savers face a real battle on their hands in order to keep pace with inflation. In fact, a quick scan of Moneyfacts.co.uk reveals that the best-buy cash ISA currently pays just 3.15 per cent, while prices are rising by 4 per cent per year on the government consumer price index measure, or 5.1 per cent on retail price index.
In the light of this, most advisers recommend that as long as an individual can afford to invest and won't need instant access to their funds, they should look at a stocks and shares ISA. Longer term, stocks and share ISA have outperformed cash savings accounts.
"The key phrase is longer term – you should have a minimum five-year horizon for your investments and accept that they can fall as well as go up in value," said Danny Cox from IFA Hargreaves Lansdown. "People who can't accept these risks ought to stick to cash ISAs."
Some investment areas are seen as higher risk than others. Direct investment in shares can be high risk; even so-called blue-chip companies such as BP are not immune from corporate disasters – such as the Gulf of Mexico oil spill – and this can lead to dramatic falls in share values. However, bigger companies do have the advantage of paying dividends which is in effect an income which can be sheltered from tax within an ISA.
Turning to collective investments, otherwise known as unit and investment trusts, there is a hierarchy of risk there too. For example, emerging markets usually encompassing China, India, Russia or Brazil are widely perceived as high risk but with the potential for big returns. "Emerging markets remains a consistent long-term growth story. If we look at Russia, this is also an oil play and even more attractive as the Middle East problems continue. As with any emerging market investment, it will be a bumpy ride and should not be for the faint hearted," Mr Cox said.
Political instability is nothing new, and something investors in emerging markets and recently even developed ones such as Europe need to take it into account. "Much of the unrest in North Africa started due to food price inflation; if people cannot afford to eat they will be unsettled very quickly. While it is hard to predict the impact and likelihood of such unrest, it is likely we will see more of it as the world population grows and the wealthy demand more food. The impact on stock markets will depend on where the unrest is – oil is a key here," said Adrian Lowcock from Bestinvest. But he adds that there are steps investors can take. "Diversify your investments. Buying into commodities is one obvious solution. Having exposure to companies which will be able to sell the added value goods (Europe has many desirable brands) as well as investing in companies able to develop technology (the US) and solutions to increase productivity," Mr Lowcock added.
Mr McDermott is looking away from emerging markets and closer to home for places to invest this tax year. "I think developed markets could do well over the next year. UK investors have ignored the US and Europe for so long. I feel that they might be this year's surprise winners. Growth is picking up in the US and corporates are in good shape. Europe obviously has some well-publicised issues as a region, but it should be remembered that its exporters are benefiting from the weak euro and a good stock-picking fund manager will avoid those stocks that are exposed to the domestic economies of troubled areas," he said.
Mr McDermott also favours the mixed investment approach of Artemis Strategic Assets managed by William Littlewood. "His approach is to invest in UK and overseas equities, fixed interest, currencies, commodities and cash and will utilise derivatives," said Mr McDermott. "For the more adventurous investor, who perhaps wanted to plug the US and European gaps in their portfolio, there are the Schroder US Mid Cap and Neptune European Opportunities funds. Alternatively, you could hedge your bets and go global with JOHCM Global Select."
Mr Cox concurs when it comes to Mr Littlewood's fund but does sound a note of caution. "The downside of this type of fund is it is likely to underperform when stock markets surge, but should provide some downside protection when they fall," he said.
Mr Lowcock favours M&G's UK inflation-linked bond for cautious investors and the Blackrock special situations for those with a higher tolerance to risk.