I've always been a good saver, and now at 29 with a steady job, I have a fairly sizable savings account. My friends are getting into investing, but it seems like such a risk and makes me uncomfortable. Isn't it enough to just keep saving?
Being a good saver certainly puts you ahead of the game. And having a solid savings account is an important step toward financial security. So first, congratulations on that. But is saving enough? For some things, yes; for other things, no. Because while saving is about accumulating money, investing is about growing your money. And that can make a huge difference in your financial future.
But let's take a step back and talk a bit more about the what and why of each.
Saving sets the stage
Basically, saving is putting aside money for future use. You can think of it as money you have left over once you've covered your essential expenses. Or, ideally, you can make saving a line item on your monthly budget, so that saving itself is one of your essentials. But however you look at it, having that money tucked away will help you pay for the things you want above and beyond your daily expenses, and also cover you in case of emergency. And that's all good.
Having a sizeable savings account can help you stay out of debt and give you the cushion you need should you face an unexpected illness, job loss or expense. Plus, when you want something special like a week's vacation, you've got the money.
But here's the catch. Most people keep their savings in a bank account. The upside is that it's easily accessible and safe; the downside is that it won't earn very much. Money in savings accounts is not likely to keep pace with inflation. Which means the money you have saved today can actually lose buying power over time. That's why just saving isn't enough.
Investing creates the action
Investing, on the other hand, is about putting your money to work for you with the goal of growing it over time. Here's an example. If you put $3,000 each year in a savings account and earn 1 percent, at the end of 20 years you'd have about $67,000. If you invested that same amount of money and got an average 6 percent return over the same time period, you'd have nearly $117,000. The sooner you start saving the less you may need to save because your money gets to work that much sooner. The more you save, the more you have to invest—and the more those returns can add up.
Of course, as you say, investing involves risk. And the stock market particularly will have its ups and downs. But there are ways to mitigate that risk. The key is to choose a broad range of investments in stocks, bonds, and cash based on your risk tolerance and time horizon and never put all your money in one particular stock.
One other important factor is time. To protect yourself against market downturns, a long-term approach is essential. At your age, you have time to keep your money in the market and ride out the inevitable market lows. The trick is to stick with it through those lows, keeping your focus on the potential for long-term gains.
Each plays an important role in your financial life
Saving and investing aren't mutually exclusive. How they work together depends on your goals and when you think you'll need the money. Are you saving for a vacation or the down payment on a home? Money for those types of shorter-term goals is best kept out of the stock market. Retirement savings? That's another story.
Here's a possible saving/investing scenario:
- Keep enough cash to cover 3-6 months essential expenses in an easily accessible savings account, money market account, or short-term CDs (certificates of deposit).
- If you think you'll need your money within the next five years, avoid investing in the stock market. Stick with cash and bond mutual funds and ETFs (exchange-traded funds).
- Include broad-based stock mutual funds or ETFs when you know you won't need the money for at least five to seven years. This is especially relevant for retirement savings.
Get started investing—now
You've got the savings covered, but don't stop there. I understand how investing can be a bit daunting, so take it step by step. If you have a 401(k), that's a great place to start. Talk to friends and family. There's lots of online information available and many financial companies offer no-cost, automated assistance that can help you build a portfolio that reflects your personal goals and timeframe. Learn as much as you can, ask questions and don't be afraid to seek professional advice.
I feel excited for you. At your age and with your savings habit firmly established, you have a great opportunity to really focus on building your future. It's your moment—grab it.
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Investing involves risk, including possible loss of principal.
The information provided here is for general informational purposes only and is not intended to be a substitute for specific individualized tax, legal or investment planning advice. Where specific advice is necessary or appropriate, consult with a qualified tax advisor, CPA, financial planner or investment manager.0120-0W9J