Following the latest announcement by the Bank of England in mid-May, the UK’s official rate of interest is now 4.5%. That is forty-five times greater than the 0.1% which was in place until December 2021, when the Bank’s monetary policy committee (MPC) began raising rates in its drive to bring inflation under control.
In many ways, higher interest rates are bad news for economies and societies. They are intended to reduce demand, squeezing consumers’ spending power (even more than inflation is already doing) and dampening business activity by raising borrowing costs. Meanwhile all the major investment asset classes tend to suffer in a rising yield environment: the value of equities, commercial property and especially bonds all declined over the course of 2022.
Cash depositors, on the other hand, should welcome higher rates. They still won’t expect to get an income which keeps them ahead of inflation over the long term, but 4% or more is at least a meaningful rate of return on an asset class which for most of the last 15 years has been yielding virtually nothing.
Unfortunately, most charities are not getting anything like that sort of rate from their cash deposits. You might be able to get a more respectable rate of interest if you are willing and able to lend to your bank or building society for a fixed period such as six months or a year, but for short term balances to which you want to retain ready access you’ll be lucky to get even 1% in interest.
The banks aren’t short of cash and they aren’t seeing enough demand for profitable lending, whether to businesses or to individual consumers and home buyers, for them to want to attract more of it by paying higher rates to depositors. Charities are getting a particularly rough deal because banks don’t see many opportunities in that market for cross-selling their other products and services, such as insurance, loans and investments, that they can promote to individual customers.
Money market funds
Is there anything you can do to get a better return from your charity’s cash balances? One answer is to use a money market fund. These pooled funds, some of which are exclusively available to charities, allow depositors to take advantage of the more attractive yields available to the institutional managers who run them, without sacrificing ready access to funds if a withdrawal is needed – most such funds have daily dealing.
Because you’re not putting your charity’s money on the balance sheet of an individual bank, money market funds won’t normally give you the protection of the Financial Services Compensation Scheme, under which depositors with up to £85,000 are protected if their bank or building society should fail. However, they come with other risk benefits that you wouldn’t enjoy when depositing directly with an individual institution. Money market funds spread deposits across a large number of banks, so there’s a diversification benefit: even in the unlikely event of an individual bank failure, the potential damage is greatly reduced.
There will also be strict controls around which institutions are eligible for use by the fund, how much can be placed with any one bank and on lending terms. Money market funds are rated by the main credit rating agencies based on credit quality and liquidity, and the most secure funds will have an AAA rating – higher than any individual bank or building society.
It’s important to understand the risks and potential benefits of different money market funds because they don’t all place the same priorities on security, liquidity and yield respectively. But with rates well above 4% currently available from AAA-rated charity deposit funds, it’s not surprising that these have become increasingly popular in recent months.
Heather Lamont is a client investment director at CCLA, one of the UK’s leading managers of investments for charities, churches and local authorities, and a member of the advisory group for ICAEW’s Charity Community.
*The views expressed are the author’s and not ICAEW’s or CCLA’s.