What should you do with your spare money?
Stick it in a bank account or invest in a unit trust fund, managed by an asset manager? It really depends on your answers to a few questions which we will cover in this blog post. Before we get into those questions, it’s a good idea that we make sure you understand the difference between “saving” and “investing”.
If you are looking to “save” money, it’s generally a decision that has a short-term horizon (no more than a couple of years). Need a few examples? How about saving for an overseas holiday, or a new kitchen. Or saving for a wedding dress, or a new Macbook Pro that you’ve had your eye on.
If you are looking to “invest” your money, the time horizon is a longer one (more than 5 years).
Imagine for a second that you are diligently putting money away each month for a new kitchen refurbishment. If you brought it up over coffee with a friend, what are you more likely to say?
“I’m saving for a new kitchen.”, or “I’m investing for a new kitchen.”
Saving for a new kitchen sounds more accurate than investing for a new kitchen, doesn’t it?
Without even knowing it, you already have a sense that “saving” money is for the short-term and investing money is a long-term commitment.
Ok, so now that we have established that saving and investing or two different money strategies, should you put your money in a bank account or invest with an asset manager?
Let’s get into those questions you need to ask yourself:
What is your time horizon?
If you are looking to save money over a short period of time, then there is nothing wrong with keeping your money in a bank account. The main advantage of doing that is that you can easily get access to your cash (just draw it out at your nearest ATM). The second advantage is that while you might not be earning exceptional returns, there isn’t any risk of you losing your money.
If you are looking to invest your money (longer than a five-year period) then looking further than a bank account is a smart idea. Even if the investment has a few ups and downs along the way, you are committed to a time frame. Given enough time, just about every investment class outperforms cash (your bank account), but you need a period of time to smooth out the ups and downs.
How much can you afford to lose?
That’s the big question, isn’t it? Nobody wants to lose money, but some of us have more appetite for risk and are prepared to gamble a little more than others. Understanding your risk profile is the single most important aspect of investing your money.
- Would you be ok if you lost 10% of your money?
- Would you be ok if you lost 30% of your money?
- Would you bet it all if you could double it?
Only you know the answers to personal questions like this.
If you leave your money in a bank account, you are by default invested in cash. Cash is the safest investment class because it has fixed interest rates and isn’t influenced by the major swings of the stock market. There is almost no chance you can lose your money (unless your bank goes belly up). If you want to play it safe and not risk a cent, then keeping your money in cash is your best option. If you have accumulated more than R10,000, you might want to consider moving your money out of your bank account and into a money market account to gain a higher interest rate (it’s still a cash investment).
If you are investing for a longer period with an asset manager, who offers a unit trust portfolio, you still have a few decisions to make and unfortunately, you need to decide how much risk you want to take. Most Asset Management companies will provide a range of different funds you can invest in depending on your risk profile and investment time horizon.
- Stable funds (designed to outperform cash over the long-term)
- Balanced funds (designed to give you exposure to the stock market but limits your losses by having some money invested in cash)
- Equity funds (designed to give you 100% exposure to the stock market)
Any investment handbook you read or graph you pull up via Google will indicate that over a longer period, the stock market (equities) will outperform any other investment class, including cash (which is your bank account).
The problem is trying to time the market. Even the best investment managers in the world don’t always get it right. Politics, wars, socio-economic factors and market sentiment all play a role in how stock markets react. Trying to invest in the stock market at a low point (when it’s cheap) and get out at a high point (when you’ve made gains) is a tricky business. It’s a much better strategy to invest for the long-term and understand that the stock market over time has historically outperformed all types of other investments. You need to give yourself the opportunity to ride out a few inevitable storms.
Generally speaking, people who are younger have a little more appetite for riskier investments because they have a longer period of time to bounce back from any market setbacks. If you retired this year with a R3,000 000 pension, how would you feel if your investment halved overnight? You don’t have the ability to earn any more, so having 50% of your life long savings being wiped out in 24 hours could be catastrophic. You would probably have a very conservative mindset, wouldn’t you?
“I want to make sure my money continues to grow, but I don’t want to risk losing it.”
If you are going to take anything away from this article, make sure it’s this:
- Saving and investing are two completely different money strategies.
- There is nothing wrong with saving money in a bank account
- There is no point investing your money in a bank account over a long period of time
- Only you know what type of investment risk you want to take on
- Only make an investment decision based on facts and always seek professional help
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