What is 'Saving'?

'Saving' happens when your income exceeds your expenditure. So it's a consequence of three sets of decisions:

• your lifestyle choices, which set your spending levels,

• your work habits and career choices, which set your earned income, and

• your past saving and investment decisions, which set your investment income.

The consequence of saving is 'savings'. We reserve the term 'investment' for the process of deciding what to do with your savings. 

(Warning. The savings industry uses the term ‘savings’ differently, to describe the act of putting your money into bank and deposit accounts. The term 'investment' is reserved for putting your money into places where either the return of capital (getting your money back) or the amount of periodic payments (receiving interest or dividends) is uncertain. This distinction is convenient for the industry in classifying the products and services it offers. But it's not convenient for you, who should be thinking about both activities in exactly the same way - as you will see.

Where do you keep your savings?

You put your money with any reliable institution that takes it and promises to give it back. Usually called a bank.

Your savings apart from money you spend on buying something with the expectation (and hope!) that it will help you meet your money needs in the future. The things that you buy are called ‘assets’.

There are many types of asset. But the only assets you will be involved with in the ‘Easy’ and ‘Simple’ modules will be cash, company shares (or organised collections of company shares called ‘Funds’) and your home.

However this simple structure must be embedded in a complicated world that we need to help you navigate. If you decide to invest in shares, for example, there are a number of different ways of doing it and you have to decide which way to use.

What are assets?

Assets are real things, such as a house or a company, which you hope will provide compensation for you in the future for what you are paying today. Your assets also include your cash.

There are lots of different sorts of assets. They can be grouped into classes. The most familiar classes are property (houses), companies, bonds and commodities (including gold).

Ownership of companies is legally achieved by ownership of some of their ‘shares’. ‘Share’ is a shorthand word for ‘share of the company’ and enables ownership to be divided among maybe thousands of ‘shareholders’. So when you buy a share you buy a slice of the company.

The American word for ‘share’ is ‘stock’. In England (and on this website), both words are used.

Products

The industry provides an essential service in bundling up lots of different assets into a single package to save you having to do it for yourself.

The number and type of products available is mind-bending. In choosing to invest in a product you must consider :-

• what are the underlying assets, and

• what is the extra cost of providing that product - the service costs?

Concepts

Two concepts dominate any consideration of the ‘right’ savings for you: ‘return’ and ‘risk’.

‘Return’ is what you get back from your investments. ‘Risk’ covers all those things that make ‘return’ uncertain. These concepts will be expanded later.

How you cope

You must simplify!

• Apart from your home, limit your assets to cash and shares

• Don’t buy individual shares, but…

• Buy a product called a ‘fund’ (or a number of separate funds). ‘Funds’ are groups of assets bundled together to help you spread your risk through the vital activity of Diversification.

• Embed all this in your review process

You are doing this to obtain the extra return from taking on risk in a manageable way. We do not explain this concept until the second lesson (‘Simple Money’). We believe it is possible for you to manage your money adequately without fully understanding them.

There is one more complication you need to handle:

Pensions

At some time in your life you have to prepare financially for your retirement. To encourage this the government offers major tax breaks for locking your savings away until you are older. And the largest advantages accrue when you start young, as you will see.

The catch is that pension decisions are irreversible until near retirement. So your savings plans must cover not just the balance between risk and return but also the split between pensions and non-pensions.

The word ‘Equities’

Buying individual shares, or investing in a fund that buys shares for you, or investing in a pension that does the same, are all different ways of making much the same investment but with different legal and cost structures around them. We need an umbrella word to cover all these things. That word is ‘Equities’. We talk about ‘investing in equities’. When discussing uncertainty we may say ‘taking equity risk’.