Saving vs investing: How the latter wins over traditional saving methods
There's been a perpetual debate on what is better: investments or savings?
Some people always swear by savings, considering it the safest way to keep the money. But they often ignore the possibilities and advantages of investment that come over some time for the investors. To understand the nuances of savings and investments, we should begin with the basics.
What is savings?
Savings is the short or long-term act of putting away or saving money for future needs or use. It is often referred to as the part of income that has not been spent on personal needs.
Traditional savings methods are like a precautionary safety step people often take. By saving in a bank or somewhere, one gets a small amount of excess money, as interest, after a certain period.
A current account is different from a savings account. It has unlimited exposure to funds with minimal to no monthly fees. Money is collected by electronic transactions, automated teller machines (ATMs), sales of debit cards, or by the drafting of personal checks. In a current account, interest rates are usually lower.
A savings account offers interest on cash not needed for daily expenses but available for emergency purposes. Deposits and withdrawals are allowed by phone, fax, or by bank branch or ATM. Interest values are higher than those for current accounts. The safest savings plans will typically be purchased online as they offer substantial interest rates.
What is investing?
Investing is a process to allocate money into some financial schemes, shares, property, or commercial ventures with the expectation for achieving higher-end returns.
Typical investments consist of stocks, bonds, mutual funds, and exchange-traded funds (ETFs). And these are managed by the investors by using brokerage accounts to buy and sell them.
So, in what ways are investing better than traditional savings methods?
Investments allow investors to earn more in comparison to traditional saving methods
Where savings offer anywhere between one and six percent investing can provide returns in multiples. Profits from stock market investment can skyrocket as per the rise of shares, and the situations might also reverse. All this while the investor needs to be strategic, that's all.
Traditional gold savings involve ancillary costs like making and melting charges and additional tax, which is not suitable for small-ticket investments that youngsters can do.
A viable route of earning more money is through equity mutual funds, which primarily invest in business stocks. The Fund can be controlled according to requirements. In the actively managed fund, the returns are mainly based on the capacity of the investment manager to produce profits.
Index and ETFs are passively managed and record the underlying index. Equity investments are classified according to market capitalization or the markets in which they are invested. Today, for high to mid-cap securities, the average yield for one-, three-, and five-year securities is about nine, 12, and 15 percent, respectively.
Investment rewards intelligence and promotes discipline
Investments can also be made by youngsters using their pocket money. Since youth have a higher risk appetite, their best option is equity. The practice of strategically investing in mutual funds can reward individuals with better decision-making skills.
People can invest in several stocks or SIPs while keeping in mind the plan for achieving a particular target. Also, the investors can withdraw their money according to their will and that too at any time.
You should start investing early because you benefit a lot from compounding. With the help of this mechanism, your money will grow a lot in the long-term. If you invest Rs 1,000 per month every year, in 10 years, you will be able to afford a small car or a great Europe trip of your liking.
A significant mistake that people make is that as soon as the market starts to go down, they lock in the losses. If you have Rs 100, and you lose 40 percent, you have Rs 60. But, you lose that amount only if you take it out. If you learn from history, that amount will go way beyond Rs 60 and more than Rs 100.
Investment offers tax benefits
If one invests in long term investment products like ELSS schemes, then they can avail tax exemption of the invested amount till a certain degree of cost. At the end of Long Term Capital Gain (LTGC) of three years tenure under the ELSS scheme, the total income is taxed at 10 percent only if the income is above a sum of Rs 1 lakh.
The investment can also be made in debt mutual fund schemes as proceeds qualify for an indexation gain after three years and are taxed at 20 percent for improved tax-efficient gains. These schemes do not invest in equities; they place investors' money primarily in fixed-interest securities such as money market funds, government securities, treasury notes, and other marketable securities.
At current rates, for medium-term bond funds, the one-, three-, and five-year investor return is about seven percent, 8.5 percent, and 9 percent, respectively.
Investments can also help people to retire early
If the investment in stocks is made with the right strategy that helps one build a considerable corpus of funds. To create the right corpus for retired life, the factors that should be taken into account and kept in balance are your lifestyle cost, investment decisions, and medical costs.
Investments help you beat inflation
Interest rates in savings barely can keep up with the inflation rates, and the earned interest might partially offset the negative effect of inflation. A small example of how inflation eats into your savings: Consider the cost of a chocolate bar in 2015 was Rs 5, but in 2020, the same chocolate bar will cost you Rs 10.
Inflation occurs because of the rise in demand for goods and services. But the rate of a fixed saving scheme does not rise with the rates of inflation; it stays stagnant, and eventually, inflation can eat almost all of the saved sum.
Many opt for gold and fixed deposit savings, but there have been only around 13 percent CAGR compounding over the past 34 years. Whereas, those who invested one thousand rupees in Wipro 36 years ago are receiving a return worth Rs 6 crore, which is a return of almost 40 percent CAGR. Similarly, if you look at historical returns on the NSE index, in the past 10 years, the NIFTY-50 index has given returns of more than 80 percent.
There is no doubt about the fact that equity has been able to produce higher returns than inflation-adjusted returns compared to all other asset groups, historically.
To ensure that the investors don’t go overboard in terms of risk while investing in equities it is important to use a stop-loss strategy to minimize losses. In the event of a stop-loss, advance order is placed to sell a stock at a given price. To a certain extent, you could broaden your investments across areas of the economy and market capitalizations to mitigate the risk.
Remember that while savings is a vital instrument for managing your finances, the only way to grow your money in real terms is through investments.
A major barrier to investing in stocks has been the lack of knowledge and the fear of losing money due to that.
However, today, there’re a number of investor education platforms that train you in the art of investing. The sooner you start investing money in life, the better your financial condition is by the time you decide to retire.
(Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the views of YourStory.)