Saving vs. Investing
Many people confuse saving with investing. However, there are some important differences between these two concepts. Understanding these differences may empower you to achieve your short- and long-term financial goals.
Saving is putting money aside for short-term needs, such as taking a family vacation or buying that plasma television you’ve had your eye on. Savings are typically held in a bank or money market account. These types of accounts may accrue some interest, but it's typically not enough to help you reach your long-term objectives.
Investing is purchasing things – such as stocks, bonds, mutual funds and real estate – that have the ability to earn income or increase in value. An investor invests his/her money with the objective of making more money to achieve their long-term financial goals, such as purchasing a home, financing a child's college education and preparing for retirement.
The primary differences between saving and investing are the varying degrees of risk and return.
Savings products, such as savings accounts and CDs, are generally risk free. You earn a guaranteed interest rate on your balances, and your dollars are federally insured (up to a certain dollar amount) against loss. On the other hand, investment products contain varying levels of risk. Generally, the more risk you take on, the greater return potential you capture.
Return potential is an important factor to consider as you attempt to grow your money to meet your long-term objectives. Although savings products offer guaranteed rates of return, those returns may not provide the growth potential you need to maintain your purchasing power and stay ahead of inflation.
For example, since 1926, inflation has grown at an average annual rate of 3.01%. Throughout that 84-year time frame, CDs only performed slightly better than inflation, returning an average of 3.66% a year. By comparison, bonds returned an average of 5.33% a year, while stocks performed the best, offering an average annual return of 9.81%. (see chart)
