What's the difference between saving and investing?

The terms “saving” and “investing” are often confused, but they actually refer to two very distinct concepts. Saving is putting money aside to achieve specific goals, while investing is putting that money into assets in the hope that its value will increase over time, helping you to accumulate wealth.

These two concepts are not opposites, but neither are they equivalent. They can complement each other to help you achieve your financial goals. Here's how.

Saving

Saving generally means putting money into a bank account. The idea is not to touch it until you've accumulated enough for your goal.

One aspect that helps your savings grow is compounding. When you put money into a bank account, it earns interest, which is added to the initial capital. The interest itself earns interest, allowing your money to grow slowly.

However, savings accounts do have a few drawbacks. They can carry management fees, and another long-term challenge is inflation. Every year, the cost of living rises by an average of 2%, reducing the value of your money. If your savings account only earns 1% or 2%, your earnings could barely make up for this loss or even decrease.

This works well if you're saving for a short-term goal, like buying a car or taking a trip. But, for long-term goals, such as buying a home or retirement, saving alone may not be enough.

Invest

This is where investment comes in. Instead of leaving your savings in a bank account, you can put them into investments such as stocks, bonds or funds.

Investing offers far greater growth potential than a savings account. For example, while a savings account might yield between 0.05% and 2% a year, an investment in equities can generate an average return of 4.6% or more, depending on the market index you're tracking.

According to historical data, over the long term, investing can allow your money to grow much more than simply saving. If you had invested $5,000 in global equities between 2000 and 2020, despite market fluctuations, your capital would have grown substantially compared with a savings account.

Conclusion

Saving is good for short-term goals, but for long-term projects, investing is a better strategy for making your money grow. The two methods can be complementary, depending on your financial needs.

Here's the progression of a $5,000 investment in the S&P/TSX Composite Index between April 2000 and April 2020. The difference is quite substantial.