ISA season 2020: investing during COVID-19

In the run-up to the end of the tax year, savers across the UK look to take advantage of their tax-free ISA allowance, choosing to put their money away in cash or shares. This year however take up was more muted, with coronavirus prompting caution amongst savers during this period. 

Introduced in 1999, the Individual Savings Account (ISA) is a powerful UK success story. A simple and widely understood tax wrapper, originally comprising a cash ISA and a stocks and shares ISA. Since their introduction, millions of ISA accounts have been set up and with the government keen to encourage higher saving levels, the tax-free allowance now stands at £20,000.

Interest rates in the UK have been extremely low since the financial crisis and against the backdrop of COVID 19, the base rate has been reduced twice in March 2020 – it currently rests at 0.1%. In contrast, in 2007 the Bank of England base rate stood at 5.5% before being lowered to 0.5% in 2008, where it remained for over seven years before being dropped to 0.25% in 2016. 

This has made cash deposits a relatively unattractive means of saving in the UK and investment funds have benefited from this, with average flows substantially higher than pre-2008 levels. Our data show that flows into investment funds typically spike in the months of March and April, in what’s known as ISA season. Whilst the number of cash ISA accounts dropped by a third between 2008 and 2018, stocks and shares ISAs have remained stable.

What’s happened this year? 

Due to the impact of coronavirus on the markets, which saw the fastest switch to a bear market in history, we’ve seen a different picture this year. In particular, the pain of March 2020’s record retail outflows of £10 billion, in a month where inflows are often strong, was a shock in this most atypical of years. 

If we look more closely at the pattern of investor behaviour around ISA season we can see that inflows have been less concentrated at the beginning of April: on average, net sales to ISAs in the first 5 days of April between 2012 and 2019 were circa £250 million. This year, they were the lowest we have seen since 2012 at just over £90 million (although there were three working days rather than five over this period).  

If we look at the picture for flows across the 2019/20 tax year, we see the highest outflows from ISAs in the last ten years. Data from five of the largest fund platforms and investment managers combined place outflows at £3.4bn. ISA outflows are not a recent phenomenon, however. The pattern of ebbs and flows into ISAs often mirrors the fortunes of the retail fund market. Just as the last quarter of 2018 saw total fund outflows of £5.6 billion, ISAs faced redemptions of £1.4 billion: a significant contribution to the 2018/19 tax year ISA outflow of £1.9 billion. A similar trend emerges from the 2016/17 tax year data, as the Brexit referendum dampened flows into funds wrapped by ISAs as well as the wider fund market.

But we continue to operate in a low interest rate environment: many savers opting for cash over investments remain short-changed.  And as April 2020 brings a return to inflows of circa £4 billion, a healthy £1.2 billion went to ISA wrappers over the course of the month, which marked the beginning of a new tax year. Savers could have been adopting a wait and see approach, moving their ISA allowance out of cash into funds as markets became less turbulent. 

Despite March’s bump in the road it is clear that the ISA remains a popular way of saving for millions across the UK. 

So how can we leverage the ISA’s success further? 

We’ve already seen the ISA franchise expanded, with more specialised versions such as the Junior ISA (the Chancellor has just doubled the amount that can be saved into a JISA to £9,000), the Innovative ISA (allowing tax efficient investment in peer-to-peer lending) and the Lifetime ISA (LISA), where savers and investors can save for a first home or for their retirement. However, unlike the classic ISA, the Innovative ISA and the LISA have proven less popular so far with savers: in part because these are more complex. 

A next step for Government and industry could be to consider what combination of tax incentives and investment opportunities can encourage even greater saving for the long term, thereby also supporting the wider economy at a time of unprecedented challenge.  Long-term capital is vital for helping companies prosper and in turn generate sustainable returns for millions of individual savers. Over many years, the ISA has established very strong foundations on which we can build further.

[The investment platforms providing data to the IA are AEGON/Cofunds, Hargreaves Lansdown, Transact, FundsNetwork and Quilter.]

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