Last updated in November 2020
Saving vs. investing, which is right for you? What is the difference even? Both saving and investing money is important but people often use both terms interchangeably. Yet they are not the same.
Investing money when you should be saving is bad and could potentially leave you without money when you need it. On the other hand, saving money when you should be investing means you are likely losing money.
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Saving vs. investing: what is the difference?
Saving money means setting money aside for future purchases and spending. Savings are always held in cash and include the money in your current accounts and instant-access saving accounts. There are generally three types of savings:
- Emergency fund
- Sinking funds
- Unspecified savings
As you may be able to guess, an emergency fund covers you during emergencies, for example, a car breakdown or unemployment. Sinking funds cover specific purchases, for example, a holiday or a wedding.
Lastly, some people are fortunate enough to make more money than they spend. This surplus of money sometimes accumulates in current accounts or low-interest savings account without a reason or purpose.
When should you save money?
Everyone should have savings which should cover at least three months’ worth of living expenses. The only exception are people with high-interest debt who may wish to prioritise paying off their debt first.
If you do not have savings, you could end up homeless fairly quickly, for example, if you lose your job. Additionally, you may face constant money worries.
How you can start saving
Starting to save money may seem daunting, especially if you are broke right now. Luckily, the vast majority of people will be able to save money just by adjusting their monthly spending. Having a budget can help you if you struggle.
If you are on a low income or tight on money, you can also save money. You may not be able to save vast amounts instantly but getting started is the first step. Another possibility is to increase your income through side hustles. This will give you more money to play with and you can start saving faster.
Investing money is allocating your money with the intent to make more money. The term investing is often used incorrectly. For example, someone may claim to invest in a new car or a new phone. This is not investing as both the new phone and the new car will depreciate in value.
The term investing should only be used if you are expecting to use something to make more money.
When should you invest money?
You should only invest money after you have set up your emergency and sinking funds. If you have surplus money that you do not need within the next year, you can invest this money.
If you have savings that serve no purpose and you are leaving this money in your current or savings account, you will lose money. This is because due to inflation, your money loses about 2% of its value per year. Investing can protect you from this as you can easily make more than 2% in interest or fund growth.
Investing is also a smart choice for those wishing to save for their retirement. Especially, if you are still young, the effects of compound interest mean that you do not need much to get started. And if you are not young any more, it is still not to late to start investing for your retirement.
How you can start investing
Starting investing may seem daunting if you are a beginner. Investing is often seen as risky and requiring special skills which scares many people. However, in reality, investing can be simple and low risk. In fact, you do not even need a financial adviser to get started.
You can start with as little as £2. One way to get a foot in the door without risking too much is to open a free account with Freetrade. Once you have deposited £2, you will get a free share if you sign-up through my link. This means you have no risk of losing any money.
Which investment vehicle is right for me?
There are a wealth of investment vehicles. Generally, your choice should depend on your risk tolerance and the time you have. If you do not need your money in the next one to five years, you should consider low-risk investments such as bonds. For periods of less than one year, the effort of opening an investment account may not be worth it.
If you do not need the money for at least five to ten years, you can consider more risky investments such as stocks. Note that these may be associated with short-term losses but if you invest smartly, for example through exchange-traded funds such as index trackers, you should make money over the long term.
Of course, there are many other ways to invest, for example, property. Before making a decision, you should always do your research and consider the available options.
Make a goal-based decision
Whether you save or invest should depend on your goal. Do you:
- Want to be prepared for emergencies? Save.
- Want to make a big purchase? Save.
- Have money you do not need for a year or more? Invest.
- Want to turn your money into more? Invest.
- Want to save for retirement? Invest.
Saving vs. investing: what is the difference? summary
Saving and investing money are both important. Saving means putting money away for specific expenses, whether they are anticipated or not. Investing means allocating money with the intention of making a profit.
When deciding whether to save or invest, you should look at your goals first. Money that you do not need for more than one year can be invested. Depending on the time frame, you can consider bonds or index trackers.
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