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This National Savings Month, you may wonder what the difference is between saving and investing. “Saving is the process of accumulating capital, while investing is the allocation of the accumulated capital to different asset classes to achieve financial objectives,” says Riaan Strydom, PSG Financial Planner of the Year 2015 from PSG Wealth Port Elizabeth. “To achieve financial freedom, you need to defer some of today’s consumption for tomorrow’s use.” Below are some points to ponder when discussing saving and investing with your partner, family or financial planner.
One of the most important things to remember is that saving is what you do on a regular and disciplined basis before you spend or consume. “It is most definitely not what you do with the little bit that is left over at the end of the month,” says Strydom.
You have to differentiate between short, medium and long-term savings as this will determine the asset allocation in your portfolio. Short-term is anything up to about two years, medium-term is up to five years and long-term is longer than five years.
“Cash, for example, is suitable for short-term savings, as it creates absolute certainty of the outcome. That is, you will get your money back. It is not ideally suited for long-term savings, as the growth is very limited.” Inversely, equities are potentially very volatile and not suitable for short-term savings as you could end up with less capital than you invested. However, they do offer great reward over the long term as they often beat inflation by a healthy margin.
When saving for short-term goals it is probably best to invest in an interest bearing investment like a money market fund, or conservative collective investments or unit trusts. “This will give you certainty of the outcome without taking the risk of extreme short-term volatility. I would not recommend any financial products limiting access to your investment,” Strydom says.
When saving for the medium term, a balanced fund offers the very attractive proposition of an experienced fund manager making the difficult asset allocation decisions on your behalf, while still aiming for the best growth possible over the medium-term. “I would still steer clear of financial products, like endowments, which limit access to your investment, except if advised otherwise by a financial planner for very specific reasons,” Strydom adds.
When saving for the long-term (i.e. for retirement), you should be less concerned about short-term volatility and more focused on achieving the best inflation beating growth possible. You want to include as many growth assets (such as local and offshore equities) as possible, as these give you the best possible chance to meet your objectives. “Long-term savings products like retirement annuities can be very useful in structuring these investments in the most tax efficient manner,” Strydom says.
Know your tax position, as this will impact on the type of product most suitable to your objectives. If you have a low tax rate, it does not make sense to use an endowment as your savings vehicle, as the tax rate in the endowment is higher than you would pay in your personal name. If you have a high tax rate, the new tax free savings account or a retirement annuity offer the opportunity to invest at a lower tax rate than you would pay in your own name. Strydom emphasises, however, that the objective should never be to pay the least amount of tax, but to have the most money in your pocket when you reach your goals. “Don’t allow tax to be the tail that wags the dog.”
It is important to have a proper household budget and to manage your finances accordingly. Most people do not have a clue what they are really spending their money on, and a budget can be a real eye opener. This will quickly translate into one less Happy Meal now in return for real wealth tomorrow.
It is also important to start teaching your children early about the principle and benefits of saving. “A family I know encourage their children to save some of their pocket money for the December holiday by agreeing to double their savings when they go on holiday. The more they save, the more they will have to spend during the holiday,” Strydom says.
Consulting with a financial planner can assist you to structure the correct financial plan for your unique circumstances and objectives. It will help you to prioritise your objectives and address those within your budgetary limitations.
“While National Savings Month is an incentive and a reminder to get saving and investing, keeping momentum throughout the year is the real trick. In time, you will reach your financial goals if you stay on track,” Strydom concludes.
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