State Savings V Irish Government Bonds

State Savings V Irish Government Bonds

 Anyone currently holding or considering making the maximum investment (€240,000) in State Savings should read on and then call us for some advice.

Introduction

Given the measly interest rates offered by Irish banks for many years, alternatives to deposit accounts always warrant consideration.

Although we have started to see signs of improving bank rates for savers, there are other alternatives, with more favourable tax treatment, available to place your cash reserves.

Options for your Lower Risk Investments

For many years, we’ve recommended moving any amount over the €100,000 covered by the Deposit Guarantee Scheme out of the bank and into State Savings.

Increased rates for state savings products over the last couple of years were welcomed. However, with an increase in the rates available for investing in Irish Government Bonds, in recent times they have often looked like a more attractive option for your lower-risk cash savings.

State Savings Compared to Irish Government Bonds

If you have your funds invested in State Savings, is it worthwhile to consider moving them into Irish Government Bonds?

Let’s imagine you invested €240,000 in the 25 Series 5-Year State Savings Certificate on the 10^th of October 2023.

Whilst the Annual Equivalent Rate (AER) on this product is 1.74% if held for the full term, in the first two years the product pays no interest at all. The bonus payable after two years is 1.5%.

You have held the product for seventeen full months, meaning you have to hold for a further seven months to avail of this bonus. The AER of holding the certificate to avail of the bonus is c2.58%. The AER over the remaining term of the State Savings Certificate is c2.513% pa.

We are currently recommending an Irish Government Bond with an AER of 2.87% pa before costs.

Moving your money out of your existing State Savings Certificate and into Irish Government Bonds for the remaining forty-three months (to complete the intended five-year investment period) should earn you more money and give you more flexibility.

Our Recommendation

Depending on the State Savings product that you’re holding, we generally recommend cashing in the State Savings and purchasing Irish Government Bonds. This is based on the following reasons:

• The overall expected return is slightly higher
• The Irish Government bond is more flexible and would allow better choice of investment options on maturity
• The Interest rate is fixed to October 2031 (Bond) instead of October 2028 (State Savings Cert)
• Both are tax free
• Both are low risk
• Both are issued by the Irish State

The Irish Government Bond that we are currently recommending matures in October 2031 (six and a half years from now). It doesn’t pay any interest so there is nothing to tax.

You can buy it today for a price of 83 (this can change significantly from day to day) and it matures for 100. This means that if you hold it for the full term, you will earn the equivalent of 2.25% pa after costs.

The gain is guaranteed, provided the Irish State doesn’t default. The gains on Irish Government bonds are also free from tax.

To put this into perspective, this is the equivalent of a bank account paying c3.4% before DIRT.

You can purchase these Irish Government Bonds at any time, but the price depends on changes in interest rates and supply and demand. It is best to think of it as a 5-year savings certificate as there is some risk to capital in the short term.

Capital Risk

Capital risk should be a consideration when purchasing bonds. Bond prices move inversely to interest rates. So, if interest rates go up the price of your bond WILL go down. This is why the returns have increased in the last year or so and created this investment opportunity.

Daily price moves don’t matter if you hold to maturity but there is a strong possibility you could face a capital loss if you buy a bond and sell it a short time later.

If you don’t have a lot of spare cash and you need to get your money back in a hurry, before a bond matures, then you are better off with savings certificates. With State Savings, even though you will earn no interest in the first year or so at least you won’t face a capital loss.

Whereas if you routinely place the max €120k in multiple issues of saving certificates and roll over from maturity to new issue then you are really an investor and should be looking to alternatives that work harder for you.

Investment Cost

There is a cost to trade and hold Irish Government Bonds, and paying for advice and custody will reduce your gross return. However, you should still obtain around 2.5% pa net of costs which is better than any equivalent State Savings Certificate or deposit account with the bank.

Making the Right Decision

It’s crucial to consider the specific characteristics and risks associated with each saving and investment option.

If you’re an investor with €100,000 or more, looking to diversify your portfolio and can commit to holding until maturity, Irish Government Bonds may currently offer a more favourable yield.

However, if you’re looking for a safe haven for your emergency funds, a shorter-term State Savings Certificate, accessible with just a week’s notice, might be your best bet.

Our advice would be to keep enough in the bank for your short-term needs before considering an investment like this.

It is very low risk over the full term but there is some risk to capital in the first few years. As with any investment, you could get back less than you invest.

For educational purposes only. This information should not be taken as a direct endorsement of any specific security.