The journey towards financial security should commence with your first paycheck, intertwining both the practices of saving and investing. People often intermingle the concepts of saving and investing, but they are distinct in nature. Saving involves stashing away some portion of your earnings for emergencies or future use without expecting any return, while investing seeks to generate a return or profit over time. This article will delve into the concepts of saving and investing, and the differentiation between them.
What is Savings?
Saving refers to the act of putting away a portion of your income for future needs or unexpected expenses. It is the primary step towards maintaining financial discipline. Funds saved can provide a financial safety net during challenging times. Savings accounts and fixed deposits with banks are among the most common saving methods in India, similar to holding cash.
Traditionally, our ancestors strongly advocated for saving money for future generations, utilizing it only during times of dire necessity. The current generation, though, embraces the 'YOLO' (You Only Live Once) mindset, often leading to extravagant expenditures. However, maintaining a financially stable lifestyle should be our priority.
Occasional splurges or exceeding your monthly budget isn't harmful, but consistently setting aside a fraction of your income for unforeseen circumstances is prudent. Financial advisors typically recommend saving 20% to 35% of your monthly income and establishing an emergency fund equivalent to 3-12 months of expenses.
The prime objective of creating a savings fund is to meet specific short-term goals or to safeguard against financial emergencies. However, simply saving without investing will not amass wealth. Merging strategic savings with investment is the key to generating substantial returns.
What is Investing?
Investing entails the acquisition of assets with the expectation that they will provide significant returns over time, thereby enhancing wealth. However, investments typically involve a degree of risk – generally, higher risk can yield higher returns. Prominent investment options include stocks, bonds, real estate, and mutual funds.
In the past, real estate and gold were the preferred investment choices, requiring considerable capital upfront. Today, beginning your investment journey can be as simple as a few clicks on your device and an initial investment as low as INR 500.
Investing, aimed towards achieving specific financial goals, can instil financial discipline and streamline goal attainment. With the broad range of investment products available today, there's something suitable for every investor, irrespective of their risk tolerance. It's essential to identify your goals, evaluate the asset, and ensure it aligns with your investment objectives.
Investing requires patience, in-depth due diligence of the investment products, and understanding of market volatility. Equity investments, though potentially high in return, are volatile and demand a long-term investment horizon to average out the market's inconsistencies. Conversely, debt investments, being less risky, are suitable for risk-averse investors and serve as viable alternatives to traditional bank offerings.
Difference between Investing & Savings
Placing funds in financial products or assets with the hope of generating future profits.
Setting aside money after covering all expenses to handle unexpected costs.
No or low risk
Primarily aimed at wealth creation and capital appreciation
Best suited for unforeseen events, emergency fund or a rainy-day fund.
Types of Assets
Long-term assets, suitable for goals like funding a child’s education, marriage, purchasing a house, etc.
Short-term assets, suitable for short-term goals like buying furniture, home appliances, or meeting emergency needs.
Stocks, bonds, mutual funds, gold, real estate, etc.
Savings account, certificates of deposit, money market instruments, etc.
Generally offers higher returns.
Provides lower returns, typically in the form of interest.
Designed for the long term, typically five years or more.
Intended for the short term.
Less liquid than a savings fund.
Highly liquid, much like holding cash.
Offers substantial protection against inflation.
Provides no or minimal protection against inflation.
Difficulty to do
Can be time-consuming as it requires understanding, investing, and monitoring investments.
Relatively easy and straightforward.
Why is Investing Important for you?
Investing allows you to secure your financial future and make your dreams a reality. Here are a few reasons why investing is essential:
- Generate returns: Investing can provide higher returns than saving alone. Different investment vehicles can yield substantial returns in favourable market conditions, allowing your money to work for you.
- Attain financial goals: Investing enables wealth accumulation, facilitating the fulfilment of your financial goals and securing your future. Investing with a clear goal can motivate regular investment and ease goal achievement.
- Counteract inflation: Inflation can diminish your savings and purchasing power. Therefore, it's vital to ensure that your money grows to combat rising costs, achievable only through investing.
- Establish financial discipline: Regular systematic investing not only fulfils your goals but also instils financial discipline and helps keep a check on your expenses.
- Moving from from Saving to Investing: Having funds on hand for emergencies is essential, but holding excess cash idle without earning returns is not wise. When you accumulate surplus cash, it's time to shift from saving to investing.
Questions to guide your readiness
The decision to start investing is highly individualistic, influenced by personal goals and circumstances. There isn't a universally applicable guide dictating when to start investing, but a few key questions can guide you in assessing your readiness to embark on your investment journey.
Do you have an emergency fund to cover unforeseen expenses?
Creating an emergency fund marks the initial stage of your investment journey. This fund serves as a financial buffer during unexpected events, like losing your job or a sudden medical emergency. Ideally, your emergency fund should cover your living expenses for 3-12 months.
Families with multiple earners and job stability might find three months' worth of expenses sufficient. However, if you're the sole earner with a less secure job, aiming for a fund that covers 6-12 months of expenses is prudent. If you have a robust emergency fund in place, then you're equipped to embark on your investment journey.
Are you able to commit to a long-term investment of 3-5 years or more?
Financial goals can be short- or long-term. Immediate financial goals planned for the next one to two years may not demand significant financial commitment. On the other hand, financial objectives with an extensive investment horizon, such as five years or more, necessitate investors to remain invested.
Some investments enforce a mandatory lock-in period, leaving investors no choice but to stay invested. Yet, others might lack a lock-in period but still require investors to commit for longer durations to accomplish their financial objectives. If you can commit your money for extended periods to achieve your financial objectives, then you're ready to initiate your investment journey.
Can you remain invested despite market volatility?
Financial advisors will typically ask several questions to gauge an investor's risk tolerance. Will you be patient, allowing the market time to stabilize, or will you react swiftly to market shifts, withdrawing your investment prematurely? If market fluctuations (either minimal or substantial) prompt you to withdraw your investment, your risk comprehension is likely low. Conversely, if you can weather the market's ups and downs, your understanding of risk is likely high.
Understand that every investment carries some level of risk, whether high or low. The financial market offers a plethora of investment products designed to cater to diverse investor needs. There are financial products with varying degrees of market risk. Investors must select the investment option most suitable to their risk tolerance.
If you answer yes to these questions, you are prepared to start your investing journey. Always remember, each investment carries an inherent level of risk. Choose an investment option that best suits your risk tolerance. Below, you'll find several tips to help you steer clear of bad advised investments.
How much should you Invest and how much should you save?
There's no universal guideline specifying how much one should save and invest. These two processes can occur simultaneously. There's no need to meet a savings target before commencing investments.
Financial professionals typically suggest allocating 10% of your income towards savings. However, based on your expenses, you might choose to save more or less. When it comes to investing, consider putting 10%-15% of your income into various investment vehicles.
From the moment you receive your first paycheck, you can start saving and investing. Always create a budget and set your expenditure limit. Stick to your budget and avoid excessive spending. Determine your savings based on your expenses.
When investing, enlist the guidance of a certified financial advisor or planner to help select the right investment. Automate your investments to maintain financial discipline. Opt for long-term investments to maximize the benefits. Additionally, as your income increases, raise your investment amount to outpace inflation. Conduct regular portfolio reviews to ensure your equity, mutual fund and other investments are providing proper returns. The sooner you start your investment journey, the larger the wealth you will accumulate over time.
Remember, only start investing when you've secured enough savings for emergencies and unforeseen circumstances!
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