- Savings vehicles off some of the safest places for your money, but the returns are typically low.
- If you have a big enough emergency fund, excess savings can be used to invest.
- Investing can lead to better returns but involves some risk.
Your savings are a pillar of your financial foundation. And as you build out your financial plan, you’ll likely wonder: How much of your savings should you invest? The answer will depend on your financial needs, goals and risk tolerance. Let’s break down how much and when to save in different financial scenarios. A financial advisor could help you put a financial plan together for your needs and goals.
How Much of My Savings Should I Invest?
Saving and investing for your future are both parts of a healthy financial plan. But how much of your savings you should be investing varies based on your financial goals and risk tolerance.
Generally, saving makes sense to account for potential emergencies and build for expenses on the short-term horizon. But investing can make more sense for those with a higher risk tolerance or long-term investment horizon.
The choice between investing and saving isn’t always cut and dry. You also need to consider your risk tolerance, which only you can determine. Investors with a low risk tolerance tend to keep more cash on hand than investors with a high risk tolerance. And depending on the stage of your financial life, you will want to take on more or less.
When to Save Money
Let’s explore three financial scenarios when it makes more sense to save money:
No emergency savings. If you don’t have an emergency fund, then you might be one unexpected expense away from financial hardship. It makes sense to prioritize saving if you don’t have any emergency savings to fall back on. Many experts recommend stashing between three to six months worth of expenses in a high-yield savings account to rely on in hard times.
Major purchase looming. A big purchase on the horizon means holding onto more cash than you normally would. Some examples of major savings goals include a home down payment or a replacement vehicle. If you need the cash in a few years, then saving money should be a priority.
Low risk tolerance. Investors with a low risk tolerance might not feel comfortable without a considerable cash cushion on hand. If that’s what makes sticking to an investment plan possible for you, then saving for a specific cushion can make sense. But keep in mind that inflation will eat away at the purchasing power of your money. So without investing cash, you stand to lose purchasing power by sticking it under the mattress or into a savings account.
When to Invest Money
Here are three financial scenarios when it makes more sense to invest your funds:
Long investment horizon. A long investment horizon means that you have a major expense that will take more than five years to save up for. One great example is retirement. It can take decades to save up for retirement. So, it’s important to put your cash to work for your future retirement through investment vehicles.
You have an emergency fund. A fully stocked emergency fund means you are ready to tackle whatever expenses life throws your way. With that major cushion in place, it’s time to funnel your extra savings towards investments.
You don’t have high interest debt. High interest debt is a drain on your finances. In most cases, it makes sense to eliminate this debt before investing. After all, the interest rate on most credit cards is far higher than what you can typically earn through an investment opportunity.
Asset Allocation Strategies Based on Risk Tolerance
A clear asset allocation strategy can help you determine what percentage of cash to keep on hand. Here’s how much cash you might decide to withhold from investing based on your risk tolerance:
Very conservative. As a cautious investor focused on portfolio stability and the preservation of capital, you might keep 30% of your portfolio in cash.
Conservative. Conservative investors are willing to accept a modicum of risk. Generally, these investors keep up to 15% of their portfolio in cash.
Moderate. Moderate investors accept more risk and focus on diversification, leading to only 5% of the portfolio being kept in cash.
Aggressive. Aggressive investors are focused on portfolio appreciation and typically only keep 5% of the portfolio in cash.
Very aggressive. Very aggressive investors pursue above-average portfolio returns and around 5% of their portfolio in cash.
The amount of cash you should keep on hand varies based on your goals and comfort level. If you have a low risk tolerance or a big-ticket purchase on the horizon, then keeping more cash on hand makes sense. Investors with a higher risk tolerance or long time horizon can often stand to keep less cash on hand.
Tips on Investing
- The right investment strategy sets you up for a bright financial future. But visualizing your portfolio’s potential growth can be easier said than done. Check out SmartAsset’s free investment calculator to see how much your money can grow.
- Risk tolerance plays a big role in your appropriate asset allocation. As an investor, building a portfolio with asset allocations that align with your risk tolerance is essential. Explore your options with SmartAsset’s free asset allocation calculator.
- Building an investment portfolio is easier with the help of a qualified professional. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
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