Saving or investing?
06 January 2017 | Portfolio construction
James Blake, head of the editorial group for Vanguard UK, explains the difference between saving and investing.
The words "saving" and "investing" are often used interchangeably in the financial press, and that's not surprising, because they are similar in many ways. But there are also some important differences. Let me explain.
Saving and investing are both mechanisms for using money efficiently in an economy. Both mechanisms take money from someone who has it but doesn't need it right now, and give it to somebody else who has a productive use for that money. And there is a reward for this transfer – known as a return – for the person whose money is being used.
In the case of saving, you give your money to a bank or building society so that they can lend some of it to other people or companies. That might be in the form of mortgages or car loans to people, or business loans to companies so that they can fund their growth by building factories, hiring more staff or whatever their plans involve.
Importantly, your money is safe with the bank - you can have it back whenever you want and deposits are generally protected by government guarantee. Your reward for letting the bank use your money is that they will give you some of the money they make from their lending in the form of interest. Investing is a bit different. When you invest, you use the markets to buy securities such as shares or bonds. And the companies or governments that have issued those shares or bonds can use your money to fund their plans – maybe building factories or hiring more staff in the case of companies, or building new infrastructure in the case of governments.
Your return when you invest comes in two forms. The first is income, which comes in the form of dividends when you buy shares or interest when you buy bonds. And the second is changes in the price of your shares or bonds – we've got another video that explains what moves share prices, so take a look at that if you're interested.
Now, the prices of these shares and bonds goes up and down, and it can go below the amount you invested, so there's more risk of losing money, especially with shares. But the reward for taking more risk is that investing normally produces higher long-term returns than you would get from saving.
So, if you're likely to need your money at short notice or you're uncomfortable with the idea of losing money, you're more likely to accept the lower returns provided by saving in a bank or building society account. But if you'd like to target higher returns, and you're prepared to take some risk, then investing might be the right option for you.
Thanks for watching.
This video is designed for use by, and is directed only at, persons resident in the UK. It is for educational purposes only.
The value of investments, and the income from them, may fall or rise and investors may get back less than they invested. Past performance is not a reliable indicator of future results.
The opinions expressed in this article are those of the individual speaker and may not be representative of Vanguard Asset Management, Ltd.
Issued by Vanguard Asset Management, Ltd, which is authorised and regulated in the UK by the Financial Conduct Authority.