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Individual Savings Accounts Market Assessment 2005
Key Note Publications Ltd, Oct 2005
Individual savings accounts (ISAs) were introduced in the UK in April 1999 and replaced both personal equity plans (PEPs — which were launched in 1987) and tax-exempt special savings accounts (TESSAs — introduced in 1991). ISAs are a tax-efficient scheme way of saving and investing, and were designed by the Government to encourage people to save money. ISAs are the Government's primary vehicle for tax-efficient saving outside pensions. According to the 2005 Budget, announced in March 2005, more than 16 million people — around one in three adults — now have an ISA and more than £160bn has been subscribed to ISAs since their launch.
Cash mini ISAs are available from banks and building societies, both on the high street and online. They are a very simple product, so have a wide appeal to investors who do not understand the stock market or who do not wish to take the risks associated with investing in stocks and shares. The sector is highly competitive, with most providers offering interest rates well above the base rate. Stocks and shares ISAs appeal to investors seeking capital as well as income growth. This sector is also highly competitive and investors can choose from a large range of providers and a wide selection of investments.
In terms of volume, sales of ISAs have remained relatively steady over the 5 years from 2001 to 2005, but there was a clear decline in the popularity of stocks and shares ISAs, and a sharp rise in the volume of cash ISAs. Cash on deposit is the largest sector of the market, accounting for 62.8% of all ISA funds as at 5th April 2004. Investors have increasingly chosen to keep their savings in cash ISAs as a result of the volatility of global equities and, in particular, the sharp reverses in equities seen in the early part of the decade. Although cash ISAs offer limited scope for capital growth, investors know that their initial investment will remain safe. By contrast, anyone investing in a UK equity ISA in 1999 could have seen the value of their investment fall by around 50% in the following 4 years.
ISAs are distributed through a wide variety of financial institutions, and the market is highly competitive. Building societies and the major high-street banks account for the bulk of cash ISAs, while fund managers represent the overwhelming majority of stocks and shares ISAs. The Internet is having a large indirect impact on the distribution of ISAs; not only is it easy for consumers to apply for and administer their ISA investments online, it is also a very useful research tool. Investors can now easily and quickly check which providers are offering the best rates on cash ISAs.
Furthermore, the Internet is a particularly useful tool for stocks and shares investors. Previously, anyone wanting to research the performance of investment funds, such as unit and investment trusts, before choosing an ISA, would have had to scour investment magazines or rely entirely on the word of their financial adviser. However, with the Internet, potential investors can easily research the performance of funds.
We forecast that the market for ISAs will continue to grow robustly over the next 5 years. In fact, total funds in ISAs are likely to almost double in value over the 5-year period between 2005 and 2009 (as at 5th April). Growth in demand for cash ISAs is likely to correlate with the interest-rate cycle and the performance of global stock markets. As any investor will testify, nothing is certain in economics and economic forecasting is a notoriously hazardous activity. However, we, along with most other analysts, believe that interest rates reached their peak at 4.75% in the current interest-rate cycle — the Bank of England cut rates by a quarter of a point to 4.5% in August 2005 — and that they will decline further in the remainder of 2005 and the first half of 2006. Following this, they are likely to begin rising again in the remainder of 2006, signalling the start of the next interest-rate cycle. The performance of the stock market over the next 5 years is even more difficult to predict, but our forecasts for the ISAs market are based on the view that the bull run that began in March 2003 will continue in 2006, and that shares will continue to find support in the remainder of the forecast period, rising by around 5% to 8% a year.
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