While interest rates may move higher over the long run and improve the returns available on a Cash ISA, there is a long way for them to go before they can compete with FTSE 100 stocks.
The index currently has a dividend yield of 4.5%. However, with a large number of blue-chip shares having yields in excess of 5% and even 6%, it is possible for an investor to obtain an income return that is substantially higher than that offered by the wider index.
As such, now could be the right time to buy a range of large-cap stocks in order to capitalise on their low valuations, high income returns and potential for capital growth while Cash ISAs offer returns that currently fail to beat inflation.
Return potential As well as offering a relatively high income return at the present time, a number of FTSE 100 dividend stocks could deliver increasing shareholder payouts over the long run.
Certainly, the world economy is facing an uncertain period at the present time. The US and China, for example, are placing increasing tariffs on imports from one another, and this could inhibit global GDP growth over the medium term.
However, the world economy continues to offer growth potential for a number of FTSE 100 stocks. For example, the emerging market growth story continues to be attractive for consumer goods companies, financial services businesses and a wide range of other sectors. Growth in demand for healthcare-related services could increase over the long run, while the resources industry could benefit from the positive long-term outlook for the world economy.
As such, the difference in returns available from buying and holding FTSE 100 dividend stocks compared to a Cash ISA could widen in future. This could make a Cash ISA even less appealing on a relative basis.
Risk reduction Although a Cash ISA is a lower-risk investment than dividend stocks, it is possible to narrow this gap to some degree through diversification. Investors are able to reduce company-specific risk through holding a wide range of companies within a portfolio. Although this still leaves market risk, in terms of the potential for a fall in the wider stock market, it could make the risk/reward opportunity of FTSE 100 companies even more compelling when compared to a Cash ISA.
Of course, a Cash ISA may not deliver a capital loss. But it could do so in real terms, since the highest interest rate available on a Cash ISA is currently below the rate of inflation. As such, investors holding cash may lose out in the long run, with a loss of spending power seemingly a likely result unless inflation falls or interest rates rise significantly over the coming years.
Therefore, now could be the right time to buy a variety of FTSE 100 dividend stocks. The opportunity to generate relatively high returns over a sustained period could make them a superior investment for income-seeking investors.
Peter Stephens has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2019