Should you take more risk with your savings?

Savers are turning their backs on the rubbish return from cash ISAs, but could stocks and shares be the answer?

This time last year you could earn a pretty reasonable return from cash ISAs, but today it's a completely different story. According to Bank of England statistics, the average ISA rate is now down to a pathetic 1.38%. By contrast, at the end of the last ISA season (which drew to a close on 5 April 2008) savers were enjoying a far healthier average tax-free return of 4.8%.

There's no question the ISA allowance offers a valuable tax break, so it would be a shame to let it go to waste. But when the rates on offer leave a lot to be desired, are ISAs really worth it?

Stocks and shares ISAs

Well, don't forget cash ISAs aren't your only option. If you're comfortable being more adventurous with your money, you could choose a stocks and shares ISA instead where you can invest up to £7,200 before the 6 April deadline.

What's more, new rules allow you to transfer any old cash ISAs into stocks and shares ISAs without affecting your current tax year's allowance. So you could potentially increase the return on all your ISA money. (Note that it's not possible to transfer money from stocks and shares ISAs into cash.)

Is it risky?

Cash ISAs are a risk-free option (barring the collapse of the provider), but we all know how erratic the performance of shares can be. If you're risk-averse, it's probably best that you steer clear. But otherwise the reward for taking a greater risk is the possibility of a greater return.

That said, investing in shares means the value of your capital could fall dramatically if the stock market collapses. The same is also true where the fund manager - who invests your ISA money on your behalf - picks the wrong stocks which perform badly.

But then again, shares have the potential to do better than the returns available on cash. And historical data shows that shares normally outperform cash over the longer term. But that's only what has happened in the past. It may not necessarily happen again in the future.

Regular investing

Of course, stock markets are low at the moment, but that can work to the advantage of the regular investor. Right now you can buy more shares (or units) with the same monthly contribution than you could when the stock market was higher and shares were more expensive. In this way, the cheap shares you buy in the coming months will poised to take off in value when stock markets start to recover further down the line.

For a while it was possible to get a decent return on regular savings held in cash ISAs despite today's low interest environment. For example, Saffron Building Society offered a Regular Saver ISA which pays a fantastic fixed rate of 7% AER without taking any risk.

I would argue this could provide a better - and certainly more consistent - return than many stocks and shares ISAs. But unfortunately, the account is being withdrawn from the market today (March 6th). So, unless you're super speedy you're likely to miss out.

Choosing a stocks and shares ISA

Picking out the best cash ISA is relatively straightforward. In fact, it's no more complicated than choosing a standard savings account. But there's a real plethora of stocks and shares ISAs available to you. This gives you the opportunity to invest in many different areas of the market, with different levels of risk. There's also a whole range of investment strategies to choose from. 

There are even some ISA accounts - known as Self-Select ISAs - where you can buy individual shares and invest them within the tax-free ISA wrapper. In this way you don't need to rely on the expertise of a fund manager to pick the shares for you. However, this is a high-risk strategy and I wouldn't recommend it for novice investors.

I would say if you're new to investing, you could start off with an index-tracking ISA. But what's an index-tracker? Index-tracking funds aim to match the performance of the share index they track - which is usually the FTSE 100 or FTSE All-Share index. There's no actual stock picking involved because the fund will simply invest in any company which is quoted on the index.

Index-trackers tend to be pretty cheap too because there's no need to pay for an expert fund manager. What's more, expertise doesn't always pay off because fund managers can - and do - make the wrong investment decisions.

With a tracker fund your ISA will always increase in value if the index goes up and vice versa. The trouble is when the stock market is in a prolonged downturn, you'll see the value collapse. So, you should only consider these investments if you're prepared to hold onto them for the long-term, hopefully allowing enough time for shares prices to recover.

Above all, if you're not too impressed with returns from cash ISAs but you're unsure how to negotiate the stock market, I suggest you try speaking to a qualified independent adviser first.

Find out more about ISAs at lovemoney.com

More: Top cash ISAs to transfer your cash too | Why ISAs are still worth it