MYM #018: A Guide to Saving and Investing – Part 1

By: Ryan Greiser, CFP®

Read Time: 3 minutes

In this two-part newsletter, I'll simplify the world of saving and investing, making it easy for anyone to understand.

Whether you're new to finance or want to improve your skills, you're in for valuable insights. Knowing how to save and invest can change the game, helping you build wealth, achieve financial goals, and secure your future.

But why do many people struggle on this journey? It's often due to misconceptions and fears about investing.

We'll tackle these obstacles head-on.

Part 1 will cover:

• Saving vs. Investing
• Risk, Reward, and Diversification

Part 2 will explain: 

• What to Invest In
• Where to Hold Your Investment
• The Power of Starting Early and Investing Often

Let’s get started 👇

Saving vs. Investing

It’s important to start by understanding the roles saving and investing play.

Savings: When we talk about saving, we're thinking about the short-term. It's like keeping money in your pocket or putting it in a safe place. Savings come with a low or even no chance of losing money, but they also offer relatively low returns – like the interest you earn on a savings account.

Investing: Investing, on the other hand, is a long-term game. It's like planting seeds that can grow into something much bigger. With investing, there's a higher chance of losing some money along the way, but the potential for higher returns makes it worthwhile.

Remember: Savings alone won't get you to all your life goals.

Here’s how I like to frame this out.

Daily to 6-24 Months Goals: Think of these as your savings goals. You need quick access to this money, so it's best to keep it in safer, easily accessible places.

1 Year and Beyond to Lifetime Goals: These are your investments. They have the potential to grow significantly over time, but they also come with a bit more risk.

3 Investments to Use and The Investment Risk/Return Spectrum

Cash: It's like having money in your wallet. It's safe, but it won't grow much. Cash is on the lower end of the risk-return spectrum.

Bonds: When you invest in bonds, you're being a loaner. You lend money to a company or the government, and they pay you back with interest. Bonds offer a risk-return somewhere in between cash and stocks.

Stocks: When you invest in stocks, you're becoming an owner of a company. It's like buying a piece of the action. Stocks offer higher potential returns but also come with higher risk – the market can be a bit like a rollercoaster.

Remember, understanding the roles of saving, investing, and what type of investment to use in each situation is crucial because they work together to help you reach your financial goals. 

Risk, Reward, and Diversification

 In the world of investing, understanding the balance between risk and reward is crucial. It's a bit like choosing a rollercoaster ride: some are slow and steady, while others are fast and exhilarating. 

Here's how Cash, Bonds, and Stocks have performed since 1926:

• Cash/Savings: These are like a calm, steady path. You won't see dramatic ups and downs, but the growth is relatively slow, averaging around 3.3% from 1926 to 2022.
• US Bonds: Bonds fall somewhere in the middle. They offer a bit more excitement than cash, averaging a 5% return. But they also have their rollercoaster moments, losing money about 1.1 years out of every 10.
• US Stocks: Stocks, on the other hand, are the thrilling rollercoaster ride of the investment world. They averaged an impressive 10.5% return over the same period. However, they can also be rocky, experiencing losses for about 2.7 years out of every 10.

The key takeaway is this: If you're looking for higher returns, are comfortable with higher risk, and have time for the money to grow, a portfolio with more stocks might be suitable. But if you prefer lower risk, are okay with potentially lower returns, and need the money in the next 24 months, allocating more to bonds and cash could be the right choice.

Remember, finding the right balance on this investment spectrum depends on your financial goals and risk tolerance.

Benefits of Diversification

Diversification is like having a mix of investments in your financial toolbox. It's a way to reduce risk by not putting all your eggs in one basket. 

In 2002, 2008, and 2013, you can see how stocks and bonds performed differently in the image below. Sometimes stocks shine, other times bonds do better. By diversifying and investing in stocks, cash, and bonds, you spread the risk across different investments.

Diversification Might Not Always Feel Good

Investing in a diversified portfolio can feel a bit counterintuitive, especially in a year when the S&P 500 is soaring. Here's a glimpse of what's called "S&P 500 Envy":

A diversified portfolio might not give you the thrill of the S&P 500's meteoric rise at times, but it's designed for a more balanced and stable journey.

In the world of investing, staying the course with a diversified portfolio can lead to better long-term results, even if it doesn't always match the latest headlines.

Conclusion:

As we wrap up this journey through the basics of saving and investing, remember that financial success is within your reach. By understanding the distinctions between saving and investing, and striking the right balance between risk and reward, you're already on the path to financial well-being.

The world of investing may seem complex, but you've taken the first step by arming yourself with knowledge.

Keep exploring, keep learning, and keep growing your financial portfolio.

Join us next week for Part 2.

Actionable Tip:

Let's get your financial journey started with these simple steps:

1. List the accounts you use for saving and investing.
2. Check your risk level with cash, bonds, and stocks.
3. See if your investments are spread out or focused in one area.

Keep in mind that small steps now can lead to big financial wins later. Take action and see your money goals come to life.