Why is it so important to invest financial surpluses?

The financial world, although it is not complex, is very broad and it is necessary to start from a base to be able to start investing and not fail in the attempt (Reuters)

Surely, many have encountered a great obstacle when wanting to start investing their money: it is that the financial world, although it is not complex, is very broad and it is necessary to start from a base to be able to start investing and not fail in the attempt.

What is that base that should be had before entering that world? The first thing to know is the difference between saving and investing, since the words are generally used as synonyms, but they are very different concepts. The main difference lies in the destination that is given to the money.

On the one hand, savings is the surplus of money that remains after facing all expenses and is “saved” to dispose of it in the future. Sometimes, that savings can generate a small interest. Some ways to save are to keep money in a piggy bank, keep it in a bank account, or deposit it in a safe deposit box.

It is key to know the difference between saving and investing, since the words are generally used as synonyms, but they are very different concepts.

On the other hand, investing is allocating current resources so that in the future they provide profitability. The difference with saving is that, instead of saving money, you give it up in the present to make a profit and increase its value in the future. Investment is generally associated with the acquisition of something and its subsequent sale or redemption.

But why is investment so important? Accumulated inflation in 2022 was 94.8%. If the surplus money was not invested, in a year its value would have been cut in half. The following graph shows this more clearly:

Source: Personal Investment Portfolio

In the previous exercise, the assumption was made of having $50,000 at the beginning of 2022. If nothing was done with that money and it was kept under the mattress, now there would be half the purchasing power of goods and services, since, adjusted for inflation, those $50,000 today are equivalent to 96,400 pesos.

If it had been invested in a fixed term (considering an average TNA of 53%) or simply bought MEP dollars at $197.8 and sold at the end of the year at $328, it would also have lost against inflation. The same if with those MEP dollars a share of a Common Investment Fund (FCI) made up of Negotiable Obligations with a dollar clause was subscribed.

The only way that in 2022 could have beaten inflation is to have invested in stocks

The only way that in 2022 could have beaten inflation is to have invested in shares (in the example of the graph, the return is from investing through FCI). In this way, the year would have ended with a final capital of $131,000, that is, an approximate profit of 162% compared to inflation of 94.8 percent.

However, when we invest there are four factors that we cannot ignore: profitability, risk, term and liquidity.

1. Profitability is the benefit obtained from an investment. It is generally measured as the percentage of profit or loss obtained on the amount initially invested in a certain period of time. It is the objective, what is expected to be received in the future.

2. The greater the risk of losing the money invested, the greater the expected return on an investment. That is why while with savings you do not assume any risk, neither can you expect a great return on the money saved. On the other hand, with the investment some risk is accepted in exchange for higher profits. The risk assumed will depend on the asset chosen.

With investing, some risk is accepted in exchange for higher profits. The risk assumed will depend on the asset chosen (Reuters)

3. The duration of the investment plays a very important role. Long-term investments are usually more profitable than short-term ones. This occurs because more time is given up to have the money available.

4 Liquidity is the ability to convert an asset, savings or investment into cash. Savings are very liquid, on the other hand, with investment, you will generally have to wait to have the money. In exchange for this loss of liquidity, once the investment period is over, you will have more money than the initial one.

Therefore, before starting to invest, you must be very clear about these concepts and ask yourself: What is the objective and what profitability is expected? How much are you willing to risk to achieve that goal? How long is it expected to get it? And finally, what liquidity need is anticipated? That is, can you wait indefinitely or is it possible that at some point you need to have the money even if you have not yet reached your goal?

Once these points have been defined, you will be much better able to start investing. However, the recommendation for an investor who is taking his first steps would be to consult with a financial advisor which is the strategy that best suits his needs.

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