Financial planning is a complex and integrated activity that is often simplified in an attempt to make it more accessible. When we look at it as a lifestyle rather than an annual exercise, it’s easier to begin to engage with our financial plan in a more meaningful level. Saving and investing are two disciplines that are core to the foundations of a solid financial plan, and for simplicity sake, they are often seen as the same thing. However – they are very different.
In a recent article for bankrate.com, James Royal explains that while both saving and investing can help us achieve a more comfortable financial future, we need to know the differences to understand how each discipline helps our financial plan.
He says that the most significant difference between saving and investing is the level of risk taken. Saving typically results in earning a lower return but with virtually no risk. In contrast, investing allows the opportunity to make higher returns but accepts an increased risk of loss.
These strategies are necessary to help build long-term wealth: they’re designed to accumulate money. Saving is typically done through your bank with products like money market accounts and savings accounts. It’s a valuable part of your financial plan to create provision for emergencies, unexpected expenses or saving for short-term goals. Investing requires more complex products and integration and requires time and ongoing management to allow your money to grow. This is often what people refer to as “making their money work for them.”
Royal says that there are plenty of reasons you should save your hard-earned money. For one, it’s usually your safest bet, and it’s the best way to avoid losing any cash along the way. It’s also easy to do, and you can access the funds quickly when you need them.
However, returns are low, meaning you could earn more by investing (but there’s no guarantee you will). Returns are generally behind inflation, so for long-term prospects, where the cost of inflation becomes a factor, you can lose purchasing power of the amount saved.
So – saving is safer than investing, but it will most likely not result in the most wealth accumulated over the long term.
When you own a broadly diversified collection of stocks, you’re likely to easily beat inflation over long periods and increase your purchasing power. However – returns are never guaranteed, and this is where risk becomes a factor. Due to the size of the markets and options to invest in alternatives, risk is mitigated by investing in a broad selection of assets and classes.
Ultimately, a balanced and robust financial plan should include savings and investment strategies that align with your life plan, allowing you access to funds when you need them and securing financial independence for your future.