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Setting money aside for a rainy day is important, we all know that. But there's far more to savings than knowing how to budget. The real key to getting ahead financially is learning how to invest all that hard-earned cash.
I know it sounds scary, but it matters more than you realise. The terrifying reality is that every year your cash becomes less and less valuable simply by doing nothing.
Let's say you'd saved up $10,000 5 years ago and stashed it under the bed. Today, that money would actually be worth around $9,000 in terms of purchasing power, thanks to inflation. Now imagine the impact of that over several decades! The value of your money is slowly being eroded, without you noticing.
Unfortunately, with interest rates likely to stay at record lows into 2021, the returns offered by many banking and investment products, such as term deposits and savings accounts, have fallen below the rate of inflation. This means your money could still be going backwards even if stored safely in an account.
That's because when the RBA drops the official cash rate, banks are forced to lower rates in response – which can be great for mortgages but terrible for savings accounts.
Luckily, there are plenty of options for you to grow your wealth in a low-interest rate world, so long as you know where to look. The key is to do your homework, understand the risks and know what rate of return you're getting.
Here's how you do it
Here are some of the ways you should consider investing to beat inflation and grow your wealth:
- Exchange-traded funds (ETFs). If you're willing to take on a little more risk for the chance at a high return, ETFs are a comparably safe way to invest in the stock market. ETFs are lower risk and less volatile than individual stocks because they're made up of multiple shares. And their rates are nothing to scoff at either – while you can't predict the future performance of the stock market, many ETFs have returned over 20% in 2021.
- Shares. It's one of the riskier options but falling interest rates actually tend to be good news for the stock market. In 2021, Australia's stock market (ASX 200) reached record highs. The obvious downside is that you can't predict what 2022 will bring and if share prices drop, so does your wealth.
- Peer-to-peer (P2P) lending. When you invest in a P2P fund, you're playing the part of a bank by lending money to borrowers. With savings rates dropping, alternative lenders such as RateSetter and Wisr are offering increasingly competitive deals to investors, with rates as high as 8% or more. Unfortunately, unlike bank accounts, neither your funds or your returns can be guaranteed.
Don't miss these tips
⚡Set some ambitious goals. Ask yourself: what do you intend to do with the money you've invested? Once you've got it down on paper, you can work backwards by calculating how much you need to put aside over time and what return on investment you should be aiming for – as well as the level of risk you're comfortable with.
⚡Set yourself a timeline. Investment and savings products work best over different time frames. If you don't intend to touch your money for another decade, investing in an index fund ETF is a relatively low-risk, high-interest way to grow your wealth. On the other hand, if you think you'll need to access that money in the next 12 months, there's a good chance you'll have lost money thanks to stock market volatility.
⚡Consider the risk you're willing to take. When you target high-investment returns, you're almost always trading in risk. Savings accounts may offer low returns, but there's also zero risk of losing your money. Shares and other investment funds can deliver extraordinary wealth, but they can also drop in value. Consider how much risk you can realistically accept.
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