Saving vs. Investing: Understanding the Difference

Saving and investing are two unique concepts, and it's important to understand the difference between them and the need for each. Saving, by definition, involves the protection and preservation of money from loss. Investing, on the other hand, means to make a long-term commitment of putting money away and letting it grow. This involves risk, such as the occasional and inevitable downturns in the market; however, over the long-term (five years or more) those dips are expected to smooth out into an overall upward growth pattern.

In order to achieve the best possible results, it's crucial that you match your saving or investing goals with the proper financial tools. For instance, stocks and stock mutual funds are generally considered to be excellent long-term investment options. For the majority of the last century, stocks have produced some of the best returns when compared to virtually every other investment available. But over a short time frame (under five years), they can be quite volatile and dangerous to an ill-prepared portfolio because stocks - and the stock market in general - have historically experienced short-term drops in value.

If you're looking to make a down payment on a new home in two years, or one of your kids will be entering college in three, you simply can't make a long-term investment commitment to handle those expenses. Such short-term needs are much better addressed with the concept of saving and preserving your capital. Whereas investing attempts to make money grow by allowing it to compound with the assumption a certain risk level, saving acts to protect your investment capital so that it's both intact and accessible when it's needed.

Although assuming a high level of risk for a short investing horizon is not the way to go, neither is simply storing your cash in a non-interest-bearing checking or extremely low-paying savings account. The goal is to find a way to ensure that your money is safe from risk and readily available for near-term use while at the same time positioned to offset the eroding effects of inflation. It's important, therefore, to select a savings option that accomplishes both of these objectives and is also easy to set up and manage.

When deciding where to put your money for relatively short periods of time, you must carefully weigh several factors related to short-term savings. These will give you a good indication of which savings option is best suited for you. Some things to consider include: the amount of money that you're going to put into your savings account; the amount of time that you have before the funds are needed; and how important to you convenience of the funds is.

There are a number of different options to explore, each with its own benefits and drawbacks. Four major types of savings vehicles to explore include savings accounts, certificates of deposit (CDs), money market accounts, and certain bond mutual funds. But shop around diligently; interest rates can vary significantly among providers of these instruments. Stockbrokers, for example, have access to nationwide information on CDs and money market funds, and are good sources for high rates of return on these items.