Saving vs. Investing: How Do You Decide?
There’s no magic number involved—it’s all about timing
So, you’ve got some extra cash on hand. Now you need to decide whether to save it or invest it. Surprisingly, this decision isn’t about how much money you have. Nowadays, with apps offering no transaction fees and low ongoing costs, you don’t need a large sum to start investing.
The key factor is time, not money. Here’s the simple rule: if you need the money within the next three years, save it in a high-yield savings account or a CD. If your goal is more long-term, or you don’t have a specific need for the money, consider investing in something that can grow, like stocks or bonds.
Time matters because it relates to risk. Money in a savings account is safe—you keep your balance, earn interest, and your funds are FDIC insured if the bank fails. Plus, you can access your money anytime without worrying about losses.
Right now, interest rates on high-yield savings accounts, especially from online banks, are pretty good—around 5 to 6% at some places. (These rates will eventually drop, but high-yield accounts will almost always be better than traditional ones.) CDs and money market accounts also have high rates right now, even beating inflation.
Investing could earn you more, but there are no guarantees. For example, the S&P 500 had over 20% returns in 2023 but lost 19% in 2022.
So, how do you choose the best option for your money and goals? There are tons of accounts and financial products out there. We’ve researched options from financial experts on each one and when they’re best to use. Read on to find out more.
Save Money You Need This Month
Your strategy: Saving
The tool you need: Checking account
Option: Put money for your day-to-day spending and bill payments here. This should cover your monthly spending, but not much more. However, avoid cutting it too close to avoid overdraft fees. Even though many banks have reduced these fees, penalties can still occur. Track your budget with a DIY method or a budgeting app and aim to keep at least 25% more than your monthly needs in your account to cover your checks.
Save for Emergencies and Unexpected Costs
Your strategy: Saving
The tool you need: High-yield savings account
Option: Use a savings account for your emergency fund and unexpected costs. These accounts should be liquid so you can easily cover deductibles, unexpected repairs, market downturns, or avoid debt.
Most financial experts suggest having at least three to six months of expenses saved for emergencies, like job loss. To be extra cautious, aim for 12 months given the current economic climate. If your income is unpredictable or you’re nearing retirement, you might want to save even more. Early retirees often keep up to two years of cash handy to avoid market risks. I learned this firsthand, and it really helped.
If retirement is far off, keep a minimum in your savings and invest the rest for long-term growth. Automating your savings is a smart move. Set up part of your paycheck to go directly into a savings account or arrange automatic transfers from your checking account. Money you don’t see is money you don’t spend. Keeping your high-yield savings account at a different bank from your checking can also help separate your savings from your spending.
CDs and Money Market Accounts
Your strategy: Saving
The tool you need: CDs, money market accounts
Option: For goals like buying a house in a couple of years, a CD can be a good choice. CDs lock in your money for a set period, offering a guaranteed rate of return, usually higher than a traditional savings account. You can open a CD online with most banks or investment brokerages. If you’re concerned about accessing your money, consider a CD ladder, which staggers your investments to ensure you have funds maturing regularly.
Money market accounts are another option, offering high interest without locking in your cash. These can be great for transitioning from saving to investing.
Invest for Long-Term Goals
Your strategy: Investing
Tools you need: Brokerage account or robo-advisor
Option: For long-term goals like funding your child’s college education, investing is a good strategy. Start by assessing your risk tolerance. Would you prefer having 100% in cash and seeing the market rise, or 100% in the market and seeing it fall by 29%? Your risk tolerance helps you decide on a portfolio mix, like 60% stocks and 40% bonds.
For young investors, a long-time horizon means short-term fluctuations are less relevant, so investing heavily in stocks might make sense. Most investing, like saving, can be done with a few clicks online. You can buy popular ETFs like VTI (Vanguard Total Stock Market Index Fund ETF) easily. If you’re hesitant about investing on your own, consider robo-advisors or professional advisors, which can offer tailored investment advice based on your financial situation.
Remember to diversify your investments to protect against downturns, spreading your money across different asset classes and sectors.
Invest for Retirement
Your strategy: Investing
The tools you need: 401(k), 403(b), IRA
Option: If you’re working, make sure you’re using an account like a 401(k) or 403(b) to save for retirement. Aim to max out your 401(k) or other workplace plan and at least contribute enough to get your company match.
Consider setting up automatic annual increases for your contributions, usually by 1%. Anything you don’t have to think about will help you save. If your employer matches 4%, save at least 5%—that’s just a day’s lunch money. Over time, you won’t even notice the difference. After a year, think about increasing your savings by 2% or even 3% each year.
If your company doesn’t offer a plan and you have earned income, you can start your own IRA or Roth IRA with an investment firm and contribute up to the yearly IRS limit. There are also options for self-employed retirement accounts with higher limits.
Should You Seek Professional Advice?
While you can go it alone with the advice above, sometimes getting personalized guidance from a professional can be smart. Experts suggest seeking a pro’s help during major life changes (marriage, having a child, etc.), if you want a solid retirement plan, or if you need reassurance that you’re on the right track.
If the stock market is volatile and you’re thinking about making big changes to your investments, a pro can offer valuable advice. A seasoned professional might tell you it’s a great time to maintain and even add to your portfolio to take advantage of lower stock prices. In the end, make the best financial decisions for your situation.
