The terms ‘saving’ and ‘investing’ are often used interchangeably in the personal finance world. Yet in reality, they’re very different things. If you want to be wealthy, it’s essential you understand the difference, so let’s take a closer look at how saving and investing differ.
Saving vs investing
Breaking the terms down, saving refers to the process of putting money aside for future use and not spending it immediately. For example, if you’re paid £2,500 a month, and you put aside £500 for future use, you’ve saved 20% of your paycheque.
By contrast, investing is the process of using your money to buy an asset – such as a stock, fund, or property – that you believe is likely to appreciate in value over time, or generate a healthy level of income for you. It’s taking that £500 saved and using it to buy an asset that will make you wealthier.
Ultimately, saving and investing play very different roles in your financial strategy. Saving essentially frees up cash whereas investing puts that cash to use to boost your wealth. It’s not rocket science to realise, therefore, that if your goal is to be wealthy, the key is to focus on investing.
£180,000 vs £750,000
Here’s a look at a simple example of saving versus investing. Let’s say from age 30 you put £5,000 per year into a Cash ISA earning 1% interest per year. After 30 years, when you turn 60, your Cash ISA will be worth approximately £180,000. That’s certainly a handy sum of money for retirement. However, when you consider that you may live for another 30+ years, £180,000 is probably not enough to live a luxurious retirement.
Now let’s say that instead of putting that £5,000 a year into a Cash ISA earning 1%, you put the money into a diversified range of investment funds and stocks, and manage to achieve an average annual return of 9%. At the end of the 30-year period, your portfolio will be worth nearly £750,000.
That’s no doubt a much more substantial amount of money. Indeed, this size retirement portfolio opens up a whole new world of possibilities. With £750,000 to play with, you could potentially generate dividend income of £40,000 per year alone in retirement and not even have to touch your capital.
Now can you see why it’s so important to invest your money, rather than just save it? By investing your money you could end up with a significantly larger retirement pot.
Investing has never been easier
If you’re interested to learn more about how to invest your money, that’s great. These days, it’s easier than ever to get started. For example, through an online broker such as Hargreaves Lansdown, you could put some money into a number of low-cost tracker funds that simply track the market.
Or, you could consider some top-performing investment funds such as the Lindsell Train Global Equity fund which has risen 170% in the last five years.
Alternatively, you could put together your own stock portfolio from the information here at The Motley Fool. Go as fast or as slow as you like. But do make sure you take action and get your money working for you.
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Edward Sheldon owns shares in Hargreaves Lansdown and has a position in the Lindsell Train Global Equity fund. The Motley Fool UK has recommended Hargreaves Lansdown. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.