Both savings and investments involve gathering money for future use but the level of risk associated with both the strategies is different. The decision of when to save and when to invest and how much to save and how much to invest is very subjective and differs from one individual to another.
What is Saving?
Saving refers to the process of putting money aside for future expenses by placing them in bank accounts. This saved money can be immediately available when you need it for any purpose like emergencies, purchases, medical conditions etc. Thus, savings involve extremely low-risk and are highly liquid.
Savings come handy for various purposes like making a down payment for a home or car, short-term educational expenses and/or buying new appliances or gadgets.
Benefits of Saving
- Having some amount in savings helps in limiting the burden of debt that people have. Savings can be used to finance various expenses instead of using credit cards. Thus, debt liability can be reduced and consequently the amount that would have been paid on interest can also be saved.
- Savings are also the path to be relieved of stress and attain peace of mind. There is a sense of comfort in knowing that you have buffer funds that can used to meet your short-term or long-term goals. Also, if savings are made regularly, they can be accumulated to make a big purchase or fund some luxurious things.
- Accumulated savings are a true saviour when it comes to funding emergencies. They alleviate difficult situations and help to ease finances during hardships. For example- urgent house repairs, car repairs, job loss, medical conditions etc.
- One of the long-term benefits of savings is that it can help one in having funds available for retirement. Thus, making a habit of saving even small portions of your paycheck can lead to early retirement, if planned wisely.
Disadvantages of Saving
- Savings are generally maintained in savings accounts and interest rates on savings account are lower as compared to other high-risk investments.
- Since people keep their savings at their homes or in a savings account, there is easy access to the money that one has saved, there is a constant urge to withdraw the amount and use it for impulsive purchases. Thus, one may not be able to save much for their retirement or future goals which is otherwise possible in case of long-term investments.
What is Investing?
Investing money refers to the process of using money to buy assets that increase in value over a period of time and provide high returns in exchange for risk-taking capacity. Investments can be highly illiquid and volatile based on the nature of asset class that they are invested in. Money can be earned by selling assets for a profit or realising capital gains.
Benefits of Investing
- Higher returns can be obtained than savings account in the long-term.
- An investment account enables individuals to choose how to allocate their funds based on one’s risk tolerance and investment criteria.
- Investments are one of the best methods of making money by keeping up with inflation. Depending on the investment product, one can make the same amount of money with less impact of inflation.
- Investments bear the potential of generating healthy long-term returns because you are putting your money to work and potentially earn a better return over the longer term.
- Investments are also an additional source of income and once you invest in quality investments, you will be motivated by the returns and reinvest them. In this way, you will avail the benefits of power of compounding, which will be very useful to you on a ‘rainy day’.
- Investing allows you to develop disciplined spending habits as you focus on your budget, cut down expenses and plan for your future. Thus, investments help in generating wealth in the long run.
- By making investments at an early age, you are a step ahead of others and hence, your financial situation will also improve with time. There may be times when your finances may become unstable but by investing smartly and from an early age, you will be in a better position to face hardships.
Disadvantages of Investing
- Investments are dependent on the fluctuations in the asset market on which you have no control. The value of investments may be affected by an economic crisis or market volatility.
- Making investments is not a simple task and may require assistance form a professional financial advisor.
- An investment’s past performance does not guarantee its future performance. Thus, it takes time and efforts to analyse an investment’s time frame, risk profile and objectives.
When to Choose Which Option?
While investing can help people in achieving their long-term financial goals and helps money to grow faster, savings refers to the method of putting money aside typically for smaller purposes which may arise in the near future. The option between savings and investments depends on one’s current financial position. For example, if you need money for emergencies or which you think will be required within a year, you should save but if you feel that you will not need the money for upcoming few years, you should invest.
However, if you have long-term goals like retirement or for your child’s education, you should invest and if your goals are majorly related to short-term situations, you should save. Prudent investors have both savings and investments portfolio as they serve different purposes and their level of risks and benefits also differ. There are options to invest even for short term goals with decent returns and liquidity, it’s always a good idea to explore these with your financial advisor.
There is no fixed metric that can help someone in assessing the right savings and investments ratio but it is mostly driven by time period and a person’s goals. Also, it must be understood that time is the greatest opportunity and one must not wait to save or invest. Whether you have a relatively small amount of money or a large corpus, you must start saving and investing.