Stop Investing Your Short-Term Goals!
With tons of financial gurus or newfound influencers in finance popping up across social media the buzzword “invest” has been plastered all over the internet. There’s this idea that investing = getting rich quickly and you can do it by timing the market. What if I told you most of what you know or think you know about investing is probably false or that it may be in direct conflict with your financial goals? As an expert in finance with a passion for bridging the gap between misinformation and truth, here is how to put your best foot forward when it comes to your savings.
For short-term goals, don’t invest in the stock market!
If you’re saving for a big purchase and think you might withdraw those funds within three years, STOP INVESTING. Save your funds in a high-yield savings account instead so your money is protected from short-term volatility. (Short-term volatility is the price we pay for the higher returns that we will accrue over time by owning stocks. In other words, investing works best in the long term, the longer you invest the less risk you have of losing money in the stock market).
Don’t Believe me? Let’s test out this theory and make a common but major purchase, buying a home.
Let's assume that for the next three years, you will save $2,000 every month for the down payment on your dream house. After reviewing your budget and goals, we've settled on a down payment of $65,000 + extra for additional closing costs and some reserves.
At the end of the first year, you would have saved $24,000. By the end of the third year, you have a total of $72,000 plus any interest accrued on that savings. Not only did you get to your goal of $65,000, but now we have a little extra for emergencies. Trust me; you're going to need it for all the house projects and untimely repairs.
On the other hand, let's say you listen to your day trader cousin and decide to invest $2,000 every month for high growth to get to your goals faster. After all, you've heard time and time again that investing is a surefire way to build wealth, right?
So, what's the issue? My concern is investing the $2,000 and not considering market volatility, especially for such a short period. (Market Volatility describes when a market experiences periods of unpredictable, and sometimes sharp, price movements. Market prices can fall but there can also be sudden price rises too). Even more alarming, is choosing to invest the funds in a high-risk investment like crypto or individual stocks.
Why Short-Term Investing Doesn’t Pay Off
Here are some numbers to illustrate why three years is too short of a timeline for investing to pay off. Let’s go back to the example of purchasing a home, let’s assume you are trying to save $65,000 for a down payment and $7,000 for reserves. You save $2,000/month for 36 months in a savings account. At the end of 3 years, you have $72,000. You've met your goal and some!
Now, let's say you could earn a guaranteed 8% return with some particular investment. Investing that $2,000/month gets you to your goals in 33 months instead of 36 as you can see on the chart below:
Assumption of $2,000 being saved for the next 36 months earning 8.00% APY.
Invest for Long-Term NOT Short-Term Goals
It's true: investing the money does fund your goals much faster, especially when compounding interest takes effect over a long time.
However, over a short period, the probability of achieving high returns is unlikely due to market fluctuations. The assumption above is a guaranteed 8% return. Sure, historically speaking, the markets have averaged over 8% over a 10, 20, 30, 40, and 50-year span but over a short period, it has done everything but that.
Market Volatility through History:
Take for instance the early 2000s recession with the dot-com bubble, or the 2007-2009 financial crisis, or the 2010s international debt crisis with Greece, Spain, and Brazil, or just recently with the economic impact of the COVID-19 pandemic.
If there’s a downturn or a pullback, you could risk losing some or most of your hard-earned savings!
So think twice before investing your money for a quick turnaround or with the hopes to make a high profit in less than 3 years.
What Can You Do with Your Savings Instead?
Keep things simple and secure. Start by creating a savings plan and make sure to remind yourself “why” you are making all of these small sacrifices to fund your goals and the peace of mind it will bring once you achieve them. Focus on what you can actually control by trimming unnecessary expenses to save more and make sure you are tackling your savings goals with purpose and intent.
A great way to make this a reality is to pay yourself first by setting aside a specific portion of your income by directing your payroll to have multiple accounts to filter through. Sometimes it’s better to have your emergency fund at a separate bank than the bank where you keep your checking account so that it’s not easily accessible.
Take this as an example: Let’s say your net take-home pay is $4,000/month, and your non-discretionary expenses—things you absolutely have to pay, like rent, student loans, credit card payments—are $3,000. Now you’re left with $1,000. With standard budgeting, you’d factor in groceries, dining out, travel, etc, and—hopefully—have a small amount remaining at the end to contribute to savings. With the pay yourself first method, you’ll decide on a savings goal upfront and put that amount away before you budget for anything else. Ideally, if you are able to save $500/month, one great strategy is to have $250/paycheck into your savings account.
Once you have started funding your emergency savings account, don’t settle for saving your cash anywhere. Make sure your money is working for you by getting the best interest rate! Please review our blog here that goes over the best rates on where to establish your savings goals.
The Big Picture
For those new to investing or who have a short-term goal in mind: Please DO NOT invest your money if you believe you will need it within the next three years! Remember that the road to financial success is found when investments are made with long-term goals in mind. Regardless of income, you will struggle to build and keep your wealth if your cash-flow management and budgeting are not the foundation of your personal finances. So, how much will you afford to save?
