Saving is setting money aside in cash accounts (generally bank savings or cash management accounts) for immediate expenses, emergencies and short-term plans. The money earns interest, which is added to your assessable income and taxed at your marginal rate.
Investing is putting money into assets to grow in value, deliver returns and build long-term wealth and security. There is a wide range of investments to choose from, each with different features and benefits. Your age and stage of life will affect the investments you choose.
In other words, saving is for now, investing is for the future. Both are necessary for effective financial management.If you’re unsure how much of your income you have available to save, it can be a good idea to plan a budget. This will tell you how much you spend each week or month, and how much you have left over to save or invest. Our handy budget planner can help you get your finances in shape.
How to choose investments
It’s easy to choose a savings account, but far more complex to decide on your long-term investment strategy.
You will need to be clear on the differences between the four major asset classes – cash, bonds, property and shares – and between fund managers. You will also need to understand the various risks and returns involved in investing and work out what level of risk you are comfortable with.
Risk and return
All investments aim to provide a certain level of return and are subject to certain risks. So when it comes to investing, as well as making money there’s a chance you could lose it. Apart from losing money, you can also think of risk as the possibility that your investments don’t achieve sufficient returns for you to meet your financial objectives.
One way to manage investment risk is to ensure you hold the investment for an appropriate length of time, generally five to seven years for share investments, to ride out any short-term fluctuations in value.
As a general rule, the bigger the potential investment return, the higher the investment risk, and the longer the suggested investment time frame.
The sooner the better
The sooner you put your money to work, the more time it has to grow. Regular investing is the key to stable growth. Even if you start with a modest amount, as long as you keep investing regularly you’ll move steadily to where you want to be.
Regular investing helps smooth out market ups and downs
Another advantage of regular investing is that you don’t need to worry about the question ‘When is a good time to invest?’ If you use a savings plan or regular investment plan option in a managed fund and invest the same amount every month, you’re automatically adopting the investment strategy known as ‘dollar cost averaging’. This means that whether financial markets are up or down, you invest the same amount of money every month. As a result, you automatically get more units for your money when prices are down and fewer units when prices are high.
This is what all wise investors are trying to achieve: to buy more when prices are low and avoid jumping in heavily when markets are running high. But so many people get distracted by the hype surrounding the markets they lose sight of this simple principle. They get nervous when prices are low and avoid investing. Or they get carried away when prices are rising and buy in heavily at market peaks. Using a regular savings plan can help you avoid these traps.
Over time, regular investing can smooth out the inevitable market ups and downs, and can also reduce the average cost of the units you’ve purchased, giving the potential for a higher overall return.