Saving Vs Investing
One of my loyal readers asked this question on the previous post.
Saving vs investing. Which is more prudent?
To answer his question, I think it’s best to start at my definition of the two words.
Saving – Putting aside a proportion of your earnings. We covered the basics in that post, and agreed that at minimum, one should save at least 10% of their earnings.
Investing – Placing your savings above in areas where the money has growth potential. This could be in shares, a fixed deposit account, government bills, business etc.
I hope from the definition above, you realise that they’re mutually exclusive. It’s prudent to keep money aside, but you don’t realise the full potential of your savings, unless they’re able to earn you more money.
Two books I highly recommend for basics of personal finance is Rich Dad Poor Dad, or The Richest Man in Babylon. I say if you’re making money, aren’t in finance and haven’t read any of the two books, you need to. The two explain finances in such basic terms, that I find myself re reading them time and again, just to remind self. If stories are your thing, the second title would be interesting to read.
The question should instead be, of our savings how much should we hold in cash?
Where should the money be invested?
This post will cover the first question, and the next question will be covered in my next post.
In my opinion, the only money that should be held in cash (or semi cash form such as a fixed deposit, or limited withdrawals savings account) is your emergency fund.
Experts recommend that we put aside at least 3 months worth of our monthly expenses as an emergency fund, to insulate against loss of income. This is to protect you in case you lose your job (it is assumed that in 3 months, one would have an alternate income generating activity), salary delays, etc.
This is the point where I step down from my pedestal. In my over 3 years of employment, I haven’t set up an emergency fund that’s this big yet. I’m starting out on one now, after a salary delay demonstrated how real this can be. I’m in the habit of investing all my savings, which isn’t wise too.
Where should your emergency fund be held?
This depends on the amounts, which we calculate as: 3 X your monthly expenses (which you get from the budget).
Having this money lying in your operations account isn’t the wisest thing to do, hence one should have multiple accounts. I recommend an operations account and a savings account with limited withdrawals per month, or quarter, one that doesn’t have an ATM card. If the two are in the same bank, you can even set up a free standing order, such that when the salary hits your account, the bank saves for you by transferring your savings before you touch the money.
1 month’s worth of expenses can be held in this account, the rest held in a form that earns you slightly more than the bank rate, but you can easily realise the money if need be. For this, I would recommended government securities, such as T Bills (which we’ll talk about in this series about investing). Having your emergency fund in shares isn’t a good idea because as much as it’s easy to sell your shares and get the money when you need it, your need might arise in such a time when the market is low, and you’re forced to sell at a loss.
Mo, this should sort out your problem, where no matter what you earn, you spend it all.
I don’t advocate for forced savings, but critical items call for critical measures.
This is going to be difficult to adhere to. Will have to force myself to be disciplined though. An emergency fund would have come in VERY handy for these 3 months I spent in-between jobs so the practical applications cannot be faulted.
Thank you for breaking it all down in such simple terms for laymen. (I more or less slept through the financial management modules of my course)
Looking forward to reading the investing series.
By God, can’t wait for the investing series. I have also had problems maintaining that emergency fund…. three months salary just sitting there….hard!
You are a God send.
3 months worth of your monthly expenses?! We should all try that.
Mo, I am beginning to suspect we’re financial twins!!!!! Haha. The major underlying issue in saving is personal discpline, for example, how long should it take to set up an emergency fund? Assuming that while setting aside the emergency fund, you would have to be more frugal with the original budget, it is a wee bit hard to begin with the end in mind
But somehow when you break it down in layman terms like this it actually seems do-able!!! LOL!! You have done what baba Loco has been trying to do since I was 8, you’ve inspired me to get my finances in order!! Well in!!!
Now why didn’t i do finance? Sounds so interesting! *still taking notes* Waiting for the next post.
Loco, I should ask my mum if she gave one of us up for adoption. Hehe.
The discipline thing… I hear you. I mean, think about the poor money just lying there by itself in the cold, dark ATM vault… it WANTS to be taken out.
Anyway, I have planned. I shall start building my emergency fund in February and give myself a maximum of 9 months to have it complete. Let’s keep each other motivated… kind of like gym buddies… but the financial kind if you get my drift. lol
I’m with you on that Mo. That money wants to lend itself selflessy to charitable cause of indulging my need for a pair of red suede heels! Le dreamy Sigh!! I need rehab quick, gym buddies it is!!
Nzenbi, scoot over a bit let me stand over theeeeere with you as we wait for the next one
I read this post a week ago and a question formed in my mind that I couldn’t put to words. Today I came across a quote that said it best:
“It appears to be a permanent part of the human condition that long term deadlines without short term milestones are rarely met.”
See the biggest weakness I find in saving for ‘a rainy day’ or for ‘retirement’ is that those are not only vague, but also way long term goals. What is the definition of a rainy day? When do you consider yourself retired? I haven’t figured it out yet, so I’m posing the question to you: How do I break down my long term goal of saving for retirement, into short term milestones that help me keep my eye on the ball? (and also keep my needy fingers off the fund)
And no, the word discipline doesn’t answer the question since it’s as vague as the goals. It’s not actionable. Awaiting your wisdom…
Wonderful reading
Kellie,
Thank you Thank you Thank you !!!!! for this!
I shall start being more disciplined in my savings and investing cultures. Lazima!
Joliea.
Unfortunately I cant seem to find your “Previous Article” and its been highly recommended by some people.. Any help in that area??
Thanks, your’e doing something great here!
It took me 8 months between jobs to realize the value of savings. I didn’t even have five hundred shillings to do my cornrows:). Stark reality.
My plan has been;
1. Place a standing order with my bank. As you said, setting up a Standing order is free.
2. I also had an account with Zimele http://www.zimele.net, the money market fund but well those savings went into buying a car:( http://www.rookie-manager.com/?p=341#comments. I could consider it semi-cash since they will readily give you the cash when you need it in one week’s time.
3. All my dividends go to my savings account. I set this with CDSC as opposed to receiving cheques which i used to mostly cash and spend.