Savings and Investments
It used to be that people saved for a rainy day. That doesn't seem to be the case anymore. The National Bureau of Economic Research conducted a study and released a paper titled, "Financially Fragile Households: Evidence and Implications" in May 2011. They looked at the capacity of American households to raise $2000 in 30 days.
"Approximately one quarter of Americans report that they would certainly not be able to come up with such funds, and an additional 19% would do so by relying at least in part on pawning or selling possessions or taking payday loans. If we consider the respondents who report being certain or probably not able to cope with an ordinary financial shock of this size, we find that nearly half of Americans are financially fragile." (Source: http://www.nber.org/papers/w17072)
If we compare savings to an umbrella, we can see how savings would offer shelter from the financial storms of life. Today half of Americans are standing in the rain without an umbrella and are getting soaked.
Though we make plans for the future and certainly hope for the best, most of us will experience something that can easily put our plans off course. These events might have long-term effects; some will pass quickly. Most of them are unexpected and can catch us off guard if we haven't prepared. Even something as minor as an appliance or auto breakdown can send us scrambling for cash; imagine what unemployment, illness, accidents, disability, marital breakdown or death could do to our finances. Any of these events can be classified as a financial storm.
Beginning a savings program will give us peace of mind. We know that we will have some resources to draw on when the storms hit. Once an emergency fund is started, you can think about other short-, mid-and long-term goals.
Here are some reasons you might want to start saving:
Emergency fund—You won't have to mess up your budget, pull from retirement savings, or incur debt to cover those unexpected expenses if you have an emergency fund. Start by putting something aside—no matter how small—and build up your reserves.
Down payment on a house—Get the house you want, at a payment you can afford. Lenders will usually offer better interest rates based on a larger down payment. Smaller payments will make life that much easier.
Vacations and other fun stuff—Items can be paid for before they are enjoyed making the whole experience better and less stressful.
Buying a car—When you pay cash you will get a better deal. You'll get the vehicle you want without having to qualify for the financing. No monthly payments and no interest.
Education savings—Your own, or your children's education. Education is an investment that pays you back over and over again.
Retirement savings—Government pensions form a base for our future income; employers may offer matching of any contributions you make to the plan; retirement savings plans offer tax shelter on earnings. The sooner the better because when time is on your side, interest works for you!
The type of investments you choose will depend on your personal risk tolerance. You must consider the time frame, investment knowledge, experience, age and your future income needs. We suggest that you work with a professional to create your personal financial plan.
P.S. The fourth chapter of our personal finance book: Power Spending: Getting More For Less, is about Savings and Investments. There are seven sections: Goal setting, Weigh your options, Let's talk about risk, Setting money aside, Finding the money, Rule of 72 and Do I have to do this alone? We help you to work your way through the savings and investments labyrinth. You'll have a better understanding of the need to set goals; you'll understand some of the risks of investing; how much you'll need to save and where you can find the money so that you will be able to reach your financial goals.