Fixed-rate bonds best for 2010

Fixed-rate savings bonds are likely to continue to offer the highest cash returns in 2010, according to analysts, while variable-rate savers are not expected to see much increase in the interest on their accounts.

Even if the Bank of England raises the base rate from its low of 0.5 per cent, analysts warned that banks and building societies may limit their increases for account holders – so it could be worth locking in to the premium returns now offered by fixed-rate bonds.

Moneyfacts, the rate service, said: “The Bank of England is expected to keep the base rate on hold for most, if not all, of 2010 leaving savers with little hope of any real change in rates.”

Currently, the top instant-access account, from Ulster Bank, part of Royal Bank of Scotland, pays 3.35 per cent – including a bonus of 0.75 percentage points for the first six months. The account can be operated by phone or internet.

However, the top one-year bond pays 3.75 per cent, with two-year bonds offering up to 4.25 per cent and longer-term fixes paying higher rates of up to 5.25 per cent over five years. And while many of the highest payers are foreign-owned banks, deposits with State Bank of India and Icici (also Indian-owned) are protected by the UK’s normal £50,000 safety net.

Fixed rates were pushed up last year as providers sought to attract savers’ funds, while instant access rates dropped to record lows averaging about 0.8 per cent.

Economists are divided over when the base rate will increase again, though few expect much, if any, change for months yet. And if the base rate does start rising later in 2010, many variable-rate savers may still not enjoy improved returns, analysts said.

The highest-paying ac-counts already offer record premiums over the base rate, and banks and societies are expected to be reluctant to pass on increases as they look to rebuild profit margins. “Providers won’t increase savings rates across the board,” warned David Black, banking consultant at analysts Defaqto. He expects many rates will be increased by less than any rise in the base rate.

With only limited improvements in variable returns forecast for the next year, many analysts suggested savers should consider one and two-year fixed-rate deals for at least part of their cash. These bonds offer returns of about half or one percentage point above the best instant access rates.

But locking into the higher rates from longer-term bonds means that returns could become uncompetitive as rates rise in later years.

Moneyfacts said: “As we move through 2010, the maximum term that most savers will be prepared to commit funds for is likely to decrease, as there is still uncertainty over how quickly the Bank of England will increase the base rate.”

Kevin Mountford, head of savings at Moneysupermarket.com, the comparison service, said that in spite of predictions that the base rate will remain low in 2010, he was a expecting a “good year for savers”.

“With banks desperate for retail inflow, we will see a fair amount of competition,” he argued.

Some of the most intense competition is likely to be among tax-free individual savings accounts (Isas), with the higher £5,100 cash Isa allowance being extended to under-50s from the new tax year in April.

However, analysts also warn that, with the worst instant access accounts continuing to pay 0.1 per cent or less, savers need to be prepared to switch providers to improve returns.

“There is huge gap between the ‘best and the rest’,” said Defaqto’s Black. “Don’t be loyal – it doesn’t pay.”