So, you’ve taken the first step in taking charge of your finances and finally opened that savings account. Hooray! Now, what’s next?
Having a savings account is great, as you keep money from being spent on impulsive purchases. But if you’re really good at it, you could utilize the 1%-something interest rates for savings accounts and make a fortune out of it. Right? Well, not really.
There’s a concept called inflation that basically means the cost of goods and services in a given market gradually rises over time. Simply put, the higher the inflation rate, the quicker your purchasing power erodes.
So, how is inflation bad for savings? Here is an example: let’s say you have $1,000 in your savings account with a 1% annual interest rate. In a year, you’ll have $1,010, but if the inflation rate is 2%, you would need to have at least $1,020 to keep up with the increased price of goods. Instead of earning, you actually lost some purchasing power with your savings. This is where investing comes in.
Why invest?
Investing allows you to keep your money away from any impulsive purchases that you might make, and invest it in a business or instrument of your choosing. Because you’re investing it in a dynamic, living entity, the opportunity to earn is bigger, as well as the risks of losing.
Not all investments are created equal, and the key to being a successful investor is picking the ones that have rewards that far outweigh the risks.
Here are 3 ways you can get started on the investing game:
1. Never Break the “Six Month Rule.”
Before even thinking of investing, there’s one important rule you should follow, which is known in the entrepreneurial world as the “Six Month Rule.” Some people refer to this as the emergency fund. Simply put, this means having enough savings in the bank that could last for six months.
Why six months? According to HuffPost, six months is the average amount of time to raise money for a business. This means that for the first 6 months of your business, it’s safe to say that you won’t be seeing any net profit, and that’s why you have the 6-month fund to spend.
The same rule applies to investing. You’re basically lending money to a business, and no one can be certain whether that business is going to make a profit in the next six months or not. In the case of the latter, your emergency fund will shield you from the loss that you’ve incurred.
If you’re serious about having a long-term investment, then make sure that your emergency fund never goes down below the six-month rule.
2. When you have more than six months worth of savings, start investing a little portion.
Now that you have your emergency fund locked and loaded, it’s time to get your feet wet. Since you’re just starting out, it is recommended to invest just a little in stocks or businesses that you’re interested in (and never invest more that you can comfortably afford lose). This allows you to get a feel for the market and how to look for the right signs.
It’s important that you still maintain your savings account, even gradually add funds to it, alongside your investment. Diversifying your investments is a good way to minimize risk, and it also helps to strike a balance between the two. A good way to diversify is to buy index mutual funds. Index funds invest in shares of stocks to mimic an index like the NYSE or NASDAQ.
3. Make Learning a Habit
Like any other “job,” investing is an industry that is susceptible to change. Startups grow, companies merge and dissolve, and businesses go bankrupt.
As a budding investor, it is your job to keep yourself in-the-know of the latest news in the industries you are invested in, so you can minimize the risks that go with investing.
What can you do to increase your knowledge on your investments? For beginners, it’s a good idea to start reading blogs on personal finance and investing. Fitz Villafuerte’s two-part blog post on explaining the stock market to a 12-year-old kid is a good start.
Aside from reading blogs on finance, keep yourself up-to-date with the news by reading financial magazines to get a grip on the rise and fall of stocks. This will allow you to determine which ones have a high risk rate and which ones will most likely gain you a profit.
Long-term investing is a double-edged sword—it can reap huge rewards, but when wielded without precision, it could cost you much. Short-term savings, on the other hand, can bring much-needed stability to your finances. Deciding where to focus your efforts depends on your goals.
AUTHOR BIO
Carol Soriano is a consultant for PawnHero.ph, the very first online pawnshop in the Philippines. A writer at heart and a social media enthusiast, she finds personal finance, investment and money matters interesting topics.
