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Why Investors Plowed Money into Low-Yield Savings in 2020
It was a volatile year, but in the end, many stock indices produced double-digit percentage gains, yet again.
Recall that 2019 was a strong year too, as the total return of the S&P 500 was more than 30%. It is also worth noting that during the previous decade, three of the best four performing years for the S&P 500 were between 2017 and 2020.
But over the past year, investors chose to place their money in savings accounts instead of seeking a higher return in such places as the bond or stock markets.
Data from the Federal Bank of St. Louis shows that investors deposited an additional $1.2 trillion in savings accounts in 2020. Investors had deposited over $2 trillion into savings by mid-July before reversing course late in the year. To put that in perspective, the gross domestic product for the U.S. is $21 trillion, so it is a substantial amount squirreled away in savings accounts.
The downside: The average savings account is yielding little above 0%. If inflation averages 2%, then these investors are locking in a loss of purchasing power. In other words, those with extra cash in the bank are allowing their money to be eroded by inflation instead of figuring out a way to maintain their purchasing power through sage investments.
Running to Safety
This decision to invest in low-yielding savings accounts is a trend that we have seen before. Investors also poured money into savings accounts following the 2008 financial crisis and following the recession in 2001. To restate, these investors identified the need to flee for safety after the crisis in 2008, not beforehand. In the world of investing, we call this “buying high and selling low.”
It may come as no surprise that this trend does not reverse until the wrong time, which is right before a recession.
Yes, investors in Japan have become accustomed to near 0% savings rates while much of Europe is experiencing negative interest rates. For example, the 10-year German government bond has been yielding negative rates since March 2019. If the government bond market is expressing market expectations for real growth rates (nominal growth minus inflation), this provides low growth expectations for parts of Europe in the years ahead.
Seeking Safety
Many investors tend to react to headlines, especially when the stock market is flashing in the red.
It is easy to understand why the common investor would want to seek the safety of a savings account during periods of uncertainty, yet this is often the time when markets may start to turn around.
For many investors, stock market losses from prior recessions remain all too familiar. It is not just the losses, but the pace of those losses that can derail people from remaining invested. For those nearing retirement, it would be understandable if they did not want their retirement resources exposed to such volatility.
If investing were as simple as following the headlines, it would be much easier. Investing is not easy. It often takes discipline and patience.
Rebalance
Investors are often faced with decisions to liquidate certain holdings and hold money in cash or to rebalance their portfolios. By rebalancing a portfolio, they are aligning their investments with their risk tolerance level and the time horizon associated with an account. Rebalancing a portfolio, instead of leaving money in cash, may serve an investor over the long term.
Investments to consider are the Schwab Intermediate-Term U.S. Treasury ETF (ticker: SCHR) and the iShares 7-10 Year Treasury Bond ETF (IEF), which both invest in U.S. Treasury notes. These funds are generally considered to be backed by the federal government while also providing a greater yield than some savings accounts. Treasury notes are market traded and in 2020, the IEF gained 10%.
Takeaway
Successful investing typically takes discipline, patience and an understanding of your risk tolerance level. Many investors fail to take this into account and allow headlines and fear to dictate their investing decisions. This was apparent again in 2020 when we saw a record amount of money put into low-yielding savings accounts.
Those with a long-term investing horizon may consider rebalancing their portfolios instead of moving monies into savings accounts in 2021. Failure to do so may cause your money from being eroded.
